OVERSIGHT OF CIVIL AERONAUTICS BOARD
PRACTICES AND PROCEDURES
HEARINGS
BEFORE THE
SUBCOMMITTEE ON
ADMINISTRATIVE PRACTICE AND PROCEDURE
OF THE
COMMITTEE ON THE JUDICIARY
UNITED STATES SENATE
NINETY-FOURTH CONGRESS
FIRST SESSION
ON
OVERSIGHT OF CIVIL AERONAUTICS BOARD
PRACTICES AND PROCEDURES
VOLUME 1
FEBRUARY 6, 14, 18, 19, 25, AND 26,
MARCH 4 AND 21, 1975
Printed for the use of the Committee on the Judiciary
U.S. GOVERNMENT PRINTING OFFICE
WASHINGTON : 1975
WORTHEASTERN UNIVERSITY SCHOOL of LAW LIBRARY
COMMITTEE ON THE JUDICIARY
JAMES O. EASTLAND, Mississippi, Chairman
JOHN L. McCLELLAN, Arkansas RO>L4N L. HRUSKA, Nebrasl^a
PHILIP A. HART, Michigan HIRAM L. FONG, Hawaii
EDWARD M. KENNEDY, Massachusetts HUGH SCOTT, Pennsylvania
BIRCH BAYH, Indiana STROM THURMOND, South Carolina
QUENTIN N. BURDICK, North DalvOta CHARLES McC. MATHIAS, Jr., Maryland
ROBERT C. BYRD, West Virginia WILLIAM L. SCOTT, Virginia
JOHN V. TUNNEY, California
JAMES ABOUREZK, South Dakota
Petee M. Stockett, Chief Counsel and Staff Director
Subcommittee on Administrative Practice and Procedure
EDWARD M. KENNEDY, Massachusetts, Chairman
PHILIP A. HART, Michigan STROM THURMOND, South Carolina
j BIRCH BAYH, Indiana CHARLES McC. MATHIAS, Jr., Maryland
^ QUENTIN N. BURDICK, North Dakota HUGH SCOTT, Pennsylvania
' JOHN V. TUNNEY, California
Stephen G. Breyer, Special Counsel
Thomas M. Susman, Chief Counsel
Philip J. Bakes, Jr., Assistant Counsel
Janet F. Alberghini, Staff Member
Theresa A. Burt, Staff Member
Caroline J. Croft, Research Assistant
James F. Michie, Investigator
James I. Campbell, Jr., Staff Member
Geoffrey White, Staff Consultant
Stephen L. Jones, Minority Counsel
(n)
^
o
CONTENTS
(See also List of Witnesses and Topical Index at the end of volume 3)
OVERSIGHT OF CIVIL AERONAUTICS BOARD
PRACTICES AND PROCEDURES
Days of Hearings
Feb. 6, 1975 OVERVIEW OF FEDERAL ECONOMIC REGULATION OF
DOMESTIC AIR TRANSPORT
Feb. 14, 1975 COMPARISON OF UNREGULATED INTRASTATE AIR-
LINES WITH REGULATED INTERSTATE AIRLINES
Feb. 18, 1975 CAB REGULATION OF ENTRY INTO DOMESTIC AIR
ROUTES AND INTO THE DOMESTIC AIR TRANSPORT
INDUSTRY
Feb. 19, 1975 CAB'S HANDLING OF CONSUMERS. SMALL GROUPS,
AND CHARTERS IN THE REGULATION OF DOMES-
TIC AIR TRANSPORT
Feb. 25, 1975 CAB REGULATIONS OF DOMESTIC AIR FARES .
Feb. 26, 1975 GENERAL QUESTIONING OF THE CAB OFFICERS
Mar 4, 1975 USES OF CAB'S AUTHORITY TO IMMUNIZE INTER-
CARRIER AGREEMENTS FROM THE ANTITRUST
LAWS
Mar 21, 1975 INQUIRY INTO THE FAILURE OF THE CAB TO INVES-
TIGATE FULLY CERTAIN VIOLATIONS OF THE FED-
ERAL CAMPAIGN LAWS
VOLUME 1
Thursday, February 6, 1975
TESTIMONY
Page
Barnum, John W., Acting Secretary, U.8. Department of Transportation.. 4
Prepared statement 1^
Engman, Lewis, Chairman, Federal Trade Commission 22
Prepared statement ^^
Kauper, Thomas E., Assistant Attorney General, Antitrust Division, U.S.
Department of Justice ^'*
Prepared statement 45
Miller, James C, III, senior stafE economist, Council of Economic Ad-
visers ■.- ^"
Prepared statement of Gary L. Seevers, member. Council of Econom^c
Advisers, and Mr. Miller ^^
Panel of economists : Merton J. Peck, professor of economics, Yale Uni-
versity ; Roger G. Noll, professor of economics, California Institute of
Technology; and Thomas G. Moore, senior fellow. The Hoover Institu-
tion on War. Revolution, and Peace, Stanford University 68
Prepared statement of Mr. Peck "^9
Prepared statement of Mr. Moore 82
Prepared statement of Mr. Noll 84
Kahn. Alfred E., Chairman, New York State Public Service Commission— 87
Prepared statement -,- ^^
James, George W.. senior vice president of economics and finance. Air
Transport Association of America 99
Prepared statement H^
(m)
IV
EXHIBITS
Air Transport Association prepared exhibits : ^^^^
Example of connecting and thirougli-flight complex, eastbound 122
Example of connecting and through-flight complex, westbound 123
Monetary value of travel by air vs. other modes 124
Dollar value of time savings due to air travel rather than other modes
of travel, Birmingham, Ala., to Miami, Fla., 1970__ 124
Average fare per passenger mile, domestic scheduled services, trunk air-
lines (1938 dollars) 129
Changes in air fares compared with other U.S. products and services-- 130
Average fare per passenger mile (indexed to constant 1938 dollars)— 131
Average air freight rates per ton mile, domestic operations, U.S. sched-
uled airlines (1940 constant dollars) 132
Distribution of trunk airlines scheduled coach fares, year ended Sept.
30, 1974, 48-state data 133
Income characteristics of adults who have flown on regular passenger
airline 134
1974 load factors, nonstop services — Boston-Detroit market 135
Distribution of airline passenger traffic by number of city-pairs (year
ended June 1974) — 136
Percent of transported passengers who are not through or connecting,
by flight distances (for city-pairs with nonstop service) 137
ATA airline cost index, U.S. trunks and local service carriers, 3d quar-
ter, 1974 138
Air Transport Association, "The Consequences of Deregulation," (Apr. 25,
1974) 139
Flight/segment load-factor distribution, U.S. -certificated airlines, 48-
state services, Aug. 1973 161
U.S. scheduled airline 1973 routes (city-pairs) risking loss of service
as a consequence of deregulation (in order from least to most
unprofitable) 171
Air Transport Association, letter from George James, senior vice president
of economics and finance, to Senator Edward M. Kennedy, dated May 8,
1975, replying to Senator Kennedy's letter of May 2, 1975 380
Council of Economic Advisers, letter from Alan Greenspan, chairman, to
Senator Edward M. Kennedy, dated May 1, 1975, evaluating the ATA
study, "Consequence of Deregulation" 382
Council on Wage and Price Stability, letter from Albert Rees, director, to
Senator Edward M. Kennedy, dated May 1, 1975, evaluating the ATA
study. "Consequences of Deregulation" 394
Douglas, George W., professor of economics. University of Texas, prepared
statement 437
Drake, John W., professor of air transportation. School of Aeronautics and
Astronautics, Purdue University, letter to Senator Edward M. Kennedy,
dated May 15, 1975, evaluating the ATA study. "Consequences of Deregu-
lation" 4J0
Kennedy, Senator Edward M., letter to George W. James, senior vice presi-
dent of economics and finance, Air Transport Association, dated Fel). 7.
1975, requesting a study on the consequences of deregulation 139
Kennedy, Senator Edward M., letter to George W. James, senior vice
president of economics and finance. Air Transport Associatioyi, dated
May 2, 1975. commenting on the ATA's "Consequences of Deregulation"- 379
Kennedy, Senator Edward M., sample letter requesting independent eval-
uations of the ATA study, "Consequences of Deregulation" 380
Keeler, Theodore E., assistant professor of economics, Universitv of Cali-
fornia at Berkeley, letter to Senator Edward M. Kennedy, dated June 4,
1975, evaluating the ATA study, "Consequences of Deregulation" _' 421
Peltzman. Sam. professor of business economics, University of Chicago,
letter to Senator Edward M. Kennedy, dated May 5, 1975, evaluating the
ATA study, "Consequences of Deregulation" 423
Sherman, Roger, professor of economics, University of Virginia, letter to
Senator Edward M. Kennedy, dated May 12, 1975, evaluating the ATA Pa&e
study, "Consequences of Deregulation" 426
Whinston, Andrew, professor of economics, management and computer sci-
ence, letter to Senator Edward M. Kennedy, dated May 9, 1975, evaluat-
ing the ATA study, "Consequences of Deregulation" 430
Friday, February 14, 1975
TESTIMONY
Panel of California intrastate airlines : Lawrence A. Guske, assistant
controller, Pacific Southtvcst Airlines; and Robert W. Clifford, presi-
dent, Air California 444
Prepared statement of Mr. Guske 449
Prepared statement of Mr. Clifford 450
Panel of economists : William A. Jordan, professor of managerial eco-
nomics, York University ; and John R. Suuimerfield, president, Summer-
field Associates 452
Prepared statement of Dr. Jordan 464
Prepared statement of Dr. Summerfield 487
O'Melia, Richard J., Acting Chairman, Civil Aeronautics Board 494
Prepared statement 498
Panel of interstate airlines : Morton Ehrlich, vice president for planning
and chief economist. Eastern Airlines; Randall Malin, vice president of
market planning, American Airlines; and Morris Shipley, vice president
of governmental affairs. Delta Air Lines 512
Prepared statement of Dr. Ehrlich 519
Prepared statement of Mr. Malin 521
Prepared statement of Mr. Shipley 523
Murphy, Charles, executive director, Texas Aeronautics Commission 525
Prepared statement 529
EXHIBITS
American Airlines, prepared exhibits :
Short-haul operating costs and earnings of American Airlines, Boston-
Washington and New York-Washington routes 522
Short-haul operating costs and earnings of American Airlines, Boston-
Washington and New York-Washington, offering PSA-type service— 522
Civil Aeronautics Board, prepared exhibits :
Comparison of fare rates for CAB-regulated and non-CAB-regulated
carriers in selected markets, Jan. 1975 502
Domestic Passenger Fare Investigation — Phase 7 (excerpts), Apr.
1971 502
Domestic Passenger Fare Investigation — Phase 9 (excerpts), Mar.
1974 503
General Passenger Fare Investigation, Nov. 1960 (excerpts) 508
Jordan, William A., prepared exhibits :
PSA's coach fares compared with CAB-authorized 1st class fares
for three major California city-pairs, 1949 467
PSA's coach fares compared with CAB-authorized coach fares
for three ma.1or California city-pairs, 1965 468
PSA's coach fares compared with CAB-authorized coach fares
for three major California city-pairs, Jan. 29, 1975 468
Increases in coach fares from late 1969 to early 1975 ; PSA compared
with CAB-authorized fares for three major California city-pairs 469
Southwest's coach fares compared with CAB-authorized coach fares
for three major Texas city-pairs, Nov. 15, 1974 471
Comparison of PSA, CAB-authorized and Canadian coach fares, Los
Angeles-San Francisco vs. Montreal-Toronto, June 1965 and Jan. 29,
1975 473
Comparison of competitive bid rates with CAB-authorized rates, cate-
gory B international operations, Aug. 4, 1959 vs. Feb. 10, 1961 475
VI
Jordan, William A., prepared exhibits — Continued
Average annual output per employe (PSA compared with total trunk Page
carriers and Western Air Lines), 1965 480
One-way coach prices for Dallas-Houston and Dallas-San Antonio
service: Southwest Airlines, Braniff Airways, and Texas Interna-
tional Airlines, June 1971-Dec. 1974 485
Top 100 origin-destination city-pairs in order of passenger rank, CAB-
certificated and California/Texas intrastate airlines (scheduled
service, 1972) 486
Summeriield, John R., prepared exhibits :
Dollar cost saved by PSA due to exclusively intra-California service— 490
Summerfield. John R., president, Summerheid Associates, letter to subcom-
mittee, dated Feb. 28, 1975 :
Response to the testimony of Dr. Jordan 490
Response to tentative subcommittee staff memorandum concerning
intrastate/interstate fare comparison 515
Texas Aeronautics Commission, prepared exhibits :
Southwest Airline service awakened sleeping air travel markets in
Texas, 1971-1972 532
Dallas-Houston market: average daily local passengers carried in
each direction, by carrier, 1967-73 533
Subcommittee staff, interstate/intrastate fare comparison : tentative staff
conclusions 515
Comparison of intrastate and interstate routes of similar distances,
Feb. 1975 517
Tuesday, February 18, 1975
TESTIMONY
Panel of airlines : William A. Hardenstine, senior vice president — sales,
World Airways ; Raymond J. Rasenberger, counsel, North Central Air-
lines ; Harvey J. Wexler, senior vice president, Continental Airlines ;
Edwin I. Colodny, executive vice president, marketing and legal affairs,
Allegheny Airlines; Andrew M. DeVoursney, group vice president, fi-
nance and planning. United Air Lines; and Stuart G. Tipton, senior vice
president. Federal affairs. Pan American World Airways 537
Prepared statement of Mr. Hardenstine 565
Prepared statement of Mr. Rasenberger 573
Prepared statement of Mr. Wexler 580
Prepared statement of Mr. Colodny 620
Prepared statement of Mr. De Voursney 629
Prepared statement of Mr. Tipton 637
Civil Aeronautics Board : Richard J. O'Melia, Acting Chairman ; G. Joseph
Minetti, Member, and Lee R West, Member 646
Prepared statement of Mr. O'Melia 660
Panel of government officials : Donald I. Baker, Deputy Assistant Attorney
General, Antitrust Division, U.S. Department of Justice; and William
A. Kutzke, Counsel, U.S. Department of Transportation 664
Prepared statement of Mr. Baker 679
Prepared statement of John W. Snow, Deputy Assistant Secretary for
Policy, Plans, and International Affairs, U.S. Department of Trans-
portation (submitted by Mr. Kutzke) 688
Gagnon, James, chairman, ad hoc committee on air service. Airport
Operators Council International 695
Prepared statement 704
EXHIBITS
Allegheny Airlines prepared exhibits :
50 percent of Allegheny's passengers are generated in only 11 percent
of the city-pairs it serves 626
29 percent of Allegheny's passengers on its Pittsburgh-Philadelphia
nonstop flights come from other than the local market, July
1974 627
51 percent of Allegheny's passengers on its Chicago-Pittsburgh non-
stop flights come from other than the local market, July 1974 628
VII
Airport Operators Council International, prepared exhibits :
Flowchart of the CAB's route hearing process as proposed by the P^se
CAB'S staff 699
Samples of high-load factor operations, 1973 and 1974 725
Profit leverage created by increased load factor 726
Pacific Southwest Airlines' load factor history, 1967 to fiscal year
1972 728
Airport Operators Council International, letter from Donald G. Shay,
president, to Senator Kennedy, dated March 4, 1975, clarifying the posi-
tion of the Board of Directors of AOCI 720
Civil Aeronautics Board, material inserted in the record for clarification :
14 C.F.R. sec. 399.60 (1974), standards for determining priorities of
hearing 650
Bureau of Operating Rights, Service to Small Communities (March
1972), excerpt 673
Continental Airlines, prepared exhibits :
Comparative U.S. and foreign coach fares 587
Continental Airlines, James L. Mitchell, vice president for regulatory pro-
ceedings, prepared statement (March 31, 1975), in response to the testi-
mony of Dr. Jordan on February 14, 1975 587
California intrastate air service, 1946-65, by carrier and by city 593
Pacific Southwest Airlines' route structure, June 1965 594
Pacific Southwest Airlines and Air California, route structure, 1975- _ 595
Relationship of international to system revenues and profit-selected
trunks, 1973 600
Continental Airlines, prepared statement in response to the prepared
statement of Dr. Jordan of April 21, 1975 617
International Air Transport Association. Knut Hammarskjold, director
general, address to the world conference on tourism and air transport
(Feb. 10, 1975), excerpts 754
Jordan, William A., professor of managerial economics, York University,
prepared statement (April 21, 1975) in response to the prepared state-
ment by Mr. Mitchell of Continental Airlines (March 31, 1975) 601
Maryland Department of Transportation, Robert J. Aaronson, State Avia-
tion Administrator, prepared statement 730
Dulles International Airport's primary and secondary service areas
within metropolitan Baltimore/Washington 736
Estimated 1975 Baltimore/Washington passengers using Baltimore/
Washington airport under adequate nonstop service conditions
(top 50 markets) 739
Used and unused nonstop authority in Baltimore/Washington's top
50 markets 740
Puerto Rico, Rafael Hernandez-Colon, Governor, prepared statement 743
New York-San Juan market, load factors, 1968-74 747
Increases in lowest regular New York-San Juan fares and proposed
1975 fares 748
Comparison of New York-San Juan fares with other vacation markets,
Feb. 1975 749
Comparison of New York-San Juan yields with other vacation mar-
kets, Feb. 1975 750
Airline unadjusted results, mainland-Puerto Rico/Virgin Islands mar-
kets, year ended June 30. 1974 751
Pan American's own projections indicate that passenger fare increases
ranging from 27 to 67 percent would be required at Pan American's
high expense and investment levels to achieve a 12 percent rate of
return 752
Comparative indirect expen.ses levels, fiscal 1974 vs. calendar 1971 753
United Air Lines, letter from Andrew De Voursney, group president of
finance and planning, to Senator Kennedy, dated Feb. 28, 1975, concern-
ing the effect of deregulation upon small-town service 635
United Air Lines, letter from William R. Nesbit, corporate economist, to
the subcommittee, dated Apr. 29, 1975, concerning the effect of dereg-
ulation upon small-town service 636
U.S. Department of Transportation, letter from John W. Snow, Acting
Assistant Secretary for Congressional and Intergovernmental affairs, to
Senator Kennedy, dated Apr. 25, 1975, responding to several followup Page
questions by Senators Kennedy and Thurmond 690
Distribution of travelers along the California coast and the Northeast
coast, by mode of travel, 1968 and 1970 694
Virginia Aviation Transportation and Airports Study Commission, letter
from Paul W. Manns, chairman, to Senator Kennedy, dated Febru-
ary 11, 1975 755
World Airways, prepared exhibits :
CAB filing fees for 12 months ended June 30, 1974 566
Documents necessary for a single travel group charter flight 566
Summary of World's 1967 proposal for a $75 transcontinental service— 567
Instructions for travel group charter application 571
VOLUME 2
Wednesday, February 19, 1975
TESTIMONY
Panel of consumers' groups: Patricia Kennedy, traffic analyst. Aviation
Consumer Action Project ; Jens Jurgen Wegscheider, Travel Informa-
tion Bureau; and Mark Silbergeld, attorney. Consumers Union 761
Prepared statement of Ms. Kennedy 832
Prepared statement of Mr. Wegscheider 840
Prepared statement of Mr. Silbergeld 848
Panel of travel clubs and charter carriers : Edward J. McDevitt, Air Club
International; G. F. Steedman Hinckley, chaii-man and chief executive
oflScer, Overseas National Airways ; and Robert Beckman, attorney. Air
Europe International -- _" 866
Prepared statement of Mr. McDevitt 949
Prepared statement of Mr. Hinckley 951
Prepared statement of Mr. Beckman 1052
Yohe, Jack, Director, Office of the Consumer Advocate, Civil Aeronautics
Board 1053
Prepared statement 1119
EXHIBITS
Air Club International, prepared exhibits :
Order 74-9-70 (1970) — 869
American Airlines, Randall Malin, vice president, marketing planning,
letter to the subcommittee, dated Apr. 4, 1975, concerning inter alia cross
subsidy 1141
Aviation Consumer Action Project, prepared exhibits :
Consumer information pamphlets 764
Passenger rules tariff, No. 380, failure to operate on schedule or
failure to carry i 772
Examples of a major airline's advertisement campaign 792
CAB Order 72-11-106 (1972), ACAP vs. Trans World Airlines 804
CAB Order 73-6-9 (1973) 811
Letter from Reuben B. Robertson III, and Martin M. Temkin, at-
torneys from Herbert A. Goldberg, to CAB, dated Jan. 21, 1974,
reouesting final decision in the case of American Airlines vs.
Herbert A. Goldberg -- 826
"How to Join Airline Club : 8- Year Wait," Wa.shington Star-News,
Jan. 27, 1974 - 829
Consumers Union, prepared exhibits :
"How Airlines Overcharge on Connecting Flights," Consumers Re-
ports, May 1972 — 850
"CAB Tallies Complaints Against U.S. Airlines," Consumers Reports,
Aug. 1972 — 855
" 'Discount' Air Fares : A Maze of Overcharges," Consumers Reports,
Oct. 1972 — 856
"CAB Speaks Softlv But Wields No Stick," Consumers Reports, Nov.
1972 861
IX
Consumers Union, prepared exhibits — Continued
"A Small Step Toward Fairer Air Fares," Consumers Reports, Jan. I'aee
1973 861
"Still Searching for a Correct Air Fare," Consumers Reports, Feb.
1973 861
"Meet the New Elite: Airline Club Members," Consumers Reiwrts,
Apr. 1973 863
"CAB Cites Airlines for Overcharging," Consumers Reports, June 1973_ 864
"Most Airlines in Same Place on Scorecard of Complaints," Con-
sumers Reports, Oct. 1973 865
Cathy, Henry D., Jr., Director of Transportation, New Castle, Delaware,
and William H. Comer, Sr., Airport Manager, Greater Wilmington Air-
port, prepared statement 1129
Civil Aeronautics Board, prepared exhibits :
Jaclv Yohe, Office of Consumer Affair.s, Consumer Complaint Survey
(1973) - 1063
Jack Yohe, Director, Office Affairs, "A White Paper on Airlines'
Handling of Baggage Claims" (Oct. 1973) 1073
CAB Order E-24198 (1966), Baggage Liahility Rules Case 1103
CAB, letter to scheduled U.S. air carriers, Feb. 1975, regarding tariff
complexity 1111
CAB, letter from Jack Yohe, Director, Office of the Consumer Advo-
cate, dated Dec. 12, 1974, to consumers 1116
Civil Aeronautics Board, letter from Jack Yohe, Director, Office of the
Consumer Advocate, to Senator ICdvvard M. Kennedy, dated Apr. 14,
1975, listing the budgets of the CAB departments 1055
Civil Aeronautics Board, "Notice of Proiwsed Rulemaking : Baggage
Delay and Loss Compensation," Mar. 6, 1975 1124
Civil Aeronautics Board, "Notice of Propo.sed Rulemaking: Construction,
Publication, Filing, and Posting of Tariffs of Air Carriers and Foreign
Air Carriers," Mar. 6, 1975 1127
Civil Aeronautics Board, James L. Weldon, Jr., Acting Director, Bureau
of Enforcement, to Senator Kennedy, dated Apr. 10, 1975, in response to
Senator Kennedy's letter of Mar. 25, 1975, concerning the allocation of
BOE effort between various kinds of carriers 1132
Civil Aeronautics Board, reference material inserted in the record by
the subcommittee :
Summary of investigative time of the Bureau of Enforcement by
category of investigation, 1971-74 '. 760
Kennedy, Senator Edward M.. letter to Richard J. O'Melia, Acting Chair-
man, Civil Aeronautics Board, dated Mar. 25, 1975, containing several
followup questions 1131
Kohn, Eugene H., Docktor Pet Centers, prepared statement (Feb. 25,
1975) 1130
"I'm Suzie, Don't Fly Me! Facts About Air Travel for Pets"___ 1130
Overseas National Airways, prepared exhibits :
CAB Order E-19492 (1963) 967
"CAB Knew of $!/> Billion North Atlantic Rebating in 1971," Travel
Trade Gazette, Feb. 1975 978
"Airlines Admit to Paying Travel Agents Kickbacks," New York Times,
Dec. 21, 1974 979
"Airlines Plan to Settle Kickback Investigation Given to Justice
Unit," Wall Street Journal, Feb. 13, 1975 980
Complaint of National Air Carrier Association Against Airlift Inter-
national and Seaboard World Airlines, dated Feb. 14, 1975 983
Advance booking round trip charters under proposed S. 421 993
Examples of affirmative NACA proposals to CAB relating to charter
rules, 1969 to 1974 994
CAB Order 74-11-122 (1974) 995
Comparison of S. 421 and CAB's TGC mode 998
"CAB : Can This Agency Be Saved?" Air Transport World, Jan. 1975-- 1000
The development of the intra-European charter market and its rele-
vance in projecting trends in other world markets 1003
TtJESDAY, February 25, 1975
TESTIMONY
Page
Nader, Ralph 1150
Prepared statement 1163
Panel of Administration officials : John W. Snow, Deputy Assistant Secre-
tary for Policy, Plans, and International Affairs, L^.S'. Department of
Transportation; Donald I. Baker, Deputy Assistant Attorney General,
Antitrust Division, U.S. Department of Justice; and George C. Eads,
Assistant Director, Cotmcil of Wage and Price Stability 1179
Prepared statement of Mr. Snow 1200
Prepared statement of Mr. Baker 1203
Prepared statement of Mr. Eads 1211
Finney, Thomas D., Jr., counsel. Continental Airlines 1220
Prepared statement 1237
Muse, M. Lamar, president. Southwest Airlines 1242
Prepared statement 1250
Dingivan, Edward A., vice president. National Air Carriers Association. ^ 1260
Prepared statement 1282
EXHIBITS
Civil Aeronautics Board, materials inserted in the record for clarification :
Estimates of cost per passenger, charter service, for .-^e'ected markets. 1279
Keeler, Theodore E., assistant professor of economics, Univ. of California
at Berkeley, prepared statement 1296
Airline costs and fares for 30 city-pairs (1968 prices) 1300
Fares, costs, and regulation 1304
Keeler, Theodore E., "Airline Regulation and Market Performance'".- 1305
Load factors — California intrastate vs. trunk, 1951 to 1970 1315
Airline costs and fares for 30 city-pairs (1968 prices) 1317
Airline costs and prices with a 50-percent load factor (1968 prices )__ 1318
1972 fares and costs 1319
Nader, Ralph, prepared exhibits :
Conn, Stephen, "Airlines and Alaska : The Ever- Weakening Thread"-- 1168
"Convention of Association of Village Council Presidents" 1171
"Alaska Aviation Industry Is Really Riding High" (Feb. 1975) 1174
"New Air Cargo Center Opens" (Feb. 1975) 1177
Nader, Ralph, Answers to Questions of Senator Thurmond 1177
National Air Carriers Association, prepared exhibits :
CAB Order 74-10-106 (Oct. 30, 1974) (North Atlantic lATA fares)— 1263
Statements of the Civil Aeronautics Board on passenger fare matters
to be negotiated at the lATA North Atlantic Traffic Conference in
Fort Lauderdale (June 1974) 1276
Sample comparison of scheduled normal fares with charter rates
(March 1975) 1285
National Air Carrier Association, Edward J. Driscoll, president, letter
to the subcommittee, dated May 6, 1975, concerning suggested
changes to the charter restrictions 1286
"Briefs" regarding U.S. supplementals' safety record over the last
decade 1288
National Transportation Safety Board, press release, Apr. 17, 1975 1295
Southwest Airlines, prepared exhibits :
Passengers in Dallas-Houston, Dallas-San Antonio, and Houston-
San Antonio (1965-72) 1252
Southwest Airlines, M. Lamar Muse, president, letter to subcommittee,
dated May 7, 1975, describing new service to Harlingen, Tex 1253
Southwest Airlines. Paul Y. Seligson, attorney, letter to the subcommittee,
dated May 9, 1975, describing new service to Harlingen, Tex 1257
U.S. Department of Justice, prepared exhibits:
Indictment in United States v. Braniff Airways, Inc., crim. No. SA-75
(W.D. Tex., filed Feb. 14, 1973) 1190
XI
Wednesday, Febeuaby 26, 1975
TESTIMONY
Civil Aeronautics Board : Richard J. O'Melia, Acting Chairman ; Whitney
Gillilland, Vice Chairman; G. Joseph Minetti, member; and Lee R. Page
West, member 1^23
Prepared statement of Mr. O'Melia 1386
EXHIBITS
Browne, Secor, former Chairman, CAB, minutes of a telephone interview
with the subcommittee staff on February 28, 1J)75 (original staff notes
and the version corrected by Mr. Browne) 1361
Civil Aeronautics Board, Richard J. O'Melia, Acting Chairman, letter to
Senator Edward M. Kennedy, dated Apr. 11, 1975, concerning the develop-
ment of efficiency standards for airlines 1350
Additional comments of members G. Joseph Minetti and Lee R.
West
1351
CAB, Bureau of Economics, submission in the mainland United
States-Puerto Rico Case (1975) 1593
Civil Aeronautics Board, William B. Caldwell, Jr., Director, Bureau of
Operating Rights, letter to Senator Edward M. Kennedy, dated Apr. 3,
1975, responding to Senator Kennedy's letter of March 25, 1975, request-
ing an explanation of BOR practice of highlighting of "effect on indus-
trv's rate of return" in memos to the Board 1374
Civii Aeronautics Board, John E. Robson, Chairman, letter to Senator
Edward M. Kennedy, dated May 30, 1975, concerning disclosure of CAB
officials prior business relations and contacts with outsiders 1385
Civil Aeronautics Board, Richard J. O'Melia, Acting Chairman, letter to
Senator Edward M. Kennedy, dated April 11, 1975, in response to Senator
Kennedy's letter of Mar. 17, 1975 concerning inaugural flights, gratuities,
and travel vouchers of CAB officials 1392
CAB, Phyllis T. Taylor, Acting Chief, Minutes Section, memorandum
to the General Counsel, CAB, dated Dec. 6, 1966, on the subject of
the rules applicable to the participation by Board personnel in
inaugural ceremonial flights (notation 8932) 1398
CAB, John H. Warner, General Counsel, memorandum to the Executive
Director, dated Jan. 9, 1964. on the subject of the rules applicable
to the participation by Board personnel in inaugural or ceremonial
flights I'lO'^
Comptroller General of the U.S., letter opinion to the Chairman of
the CAB, dated May 20, 1958 (37 Comp. Gen. 776) concerning cere-
monial flights 1409
CAB, memorandum from the Board's minutes files entitled "Inaugural-
Ceremonial Flights" (undated) 1414
CAB, Regulation Policy Statement No. 19, to Part 399 of the Regu-
lations (14 CFR 399 et seq) (1963) 1419
CAB, Regulation Policy Statement No. 6, to Part 223 of the Regu-
lations (14 CFR 223 et seq) (1958) 1426
CAB, Regulation Policv Statement No. 21. to Part 399 of the Regu-
lations (14 CFR 399 et seq) (1964) (excerpt) 1431
CAB, Andrew J. Anessi. Chief, Tariffs Section, Bureau of Economics,
letter to Marion F. Curran. Director — Special Transportation and
Sales Agreements. Pan American World Airways, dated April 24,
1973, approving an inaugural flight to Caracas. Venezuela 1436
CAB, news release of May 7, 1973, describing the dedication of
certain aviation facilities in Oakland 1441
CAB, sections 360 to 367A of the Regulations, relating to reimburse-
ment of CAB employees for travel expenses (1973) 1444
CAB, Brief for Timm in the case of Aviation Consumer Action Project
V. Timm, No. 74-1945 (D.C. Cir. 1975) 1553
CAB, Bureau of Enforcement, complaints alleging the illegality of
"VIP" treatment by 20 airlines in favor of certain persons and
I)etitions for enforcement (1974) 1582
XII
Civil Aeronautics Board, materials inserted in the record by the subcom-
mittee for clarification :
Tables showing the return on investment of the airlines as a group Pa&e
(1947-74) and by carrier (1962-71) 1332
CAB, Ralph L. Wisner, Chief Administrative Law Judge, memorandum
to Robert Timm, Chairman, CAB, dated April 2, 1973, listing route
cases unheard "pursuant to informal instructions of the Chairman's
office in connection with the unofficial moratorium on route
eases" ^^^^
Example of a CAB staff memo highlighting the topic "Effect on Indus-
try's Rate of Return" 1368
Lazarus, Monte, former assistant to Secor Browne, former Chairman, CAB,
minutes of a telephone interview with the subcommittee staff on Feb-
ruary 27, 1975 (original staff notes and the version corrected by
Mr. Lazarus) 1363
Lockheed-California Co., Grayden M. Paul, director, airline requirements,
letter to the subcommittee, dated Mar. 21, 1975, containing cost estimates
of operating the L-lOll-l for various distances with various load
factors 1336
Mcintosh, Colin, "Airline Profits . . . Why Delta? . . . And Why Not
Eastern?" Air Transport World, July 1974 (inserted by the subcommittee
for clarification) 1345
Pan American World Airways, Patrick W. Lee, attorney, letter to the sub-
committee, dated June 19, 1975, replying to the submission of the CAB's
Bureau of Economics in the letter of Apr. 11, 1975 1663
Wisner, Ralph L., former Chief Administrative Law Judge, CAB, minutes
of a telephone interview with the subcommittee staff on February 25,
1975 (original staff notes and the version corrected by Mr. Wisner) 1359
VOLUME 3
Tuesday, March 4, 1975
TESTIMONY
Panel of airlines : Randall Malin, vice president, marketing planning,
American Airlines; Edward A. Beamish, senior vice president, corpo-
rate planning. United Air Lines; and Richard S. Mauer, senior vice
president and general counsel. Delta Air Lines 1699
Prepared statement of Mr. Malin 1^4
Prepared statement of Mr. Beamish 1T27
Prepared statement of Mr. Mauer 1732
Baker. Donald I., Deputy Assistant Attorney General, Antitrust Divi-
sion, U.S. Department of Justice 1737
Prepared statement 1742
Panel of community representatives : Erie A. Taylor, director of avia-
tion, Clark County, Nevada; and Robert J. Aaronson. administrator.
State Aviation Administration, Maryland Department of Transporta-
tion 1753
Prepared statement of Mr. Taylor 1764
Prepared statement of Mr. Aaronson 1777
Civil Aeronautics Board : Richard J. O'Melia, Acting Chairman, and
Robert Timm, member 1781
Prepared statement of Mr. O'Melia 1795
Gilstrap, Roderic W., first vice president, Air Line Pilots Association 2150
Prepared statement 2151
EXHIBITS
Air Line Pilots Association, International, J. J. O'Donnell, president, pre-
pared statement 2221
American Airlines, prepared exhibits :
CAB, James L. Weldon, Jr., Bureau of Enforcement, letter to James
W. Callison, Delta Air Lines, dated Dec. 17, 1974, denying Delta
Air Lines' petition for an enforcement proceeding against American
Airlines 1722
American Airlines, Richard J. Fahy, Jr., attorney, letter to the subcom-
mittee, dated Mar. 13, 1975, commenting upon the prepared exhibits of
Clark County, Nevada 1776
XIII
Bower, Richard S., professor of business economics, Dartmouth College,
special study for the subcommittee on the appropriate return on equity Page
in the airline industry 2284a
Trunk airlines, ratio of market value of stock to book value, and
return on book value, by carrier, 1964-73 2284g
Table showing association of market price per share/book value per
share with return on book equity 2284k
Civil Aeronautics Board, William B. Caldwell, Jr., Director, Bureau of
Operating Rights, letter to Senator Edward M. Kennedy, dated Feb. 28,
1975, categorizing 8,057 interairline agreements submitted to the CAB,
1967-74 1790
Civil Aeronautics Board, materials inserted in the record by the subcom-
mittee for clarification and documentation :
CAB Order 70-11-35 (Nov. 6, 1970), rejecting the "cluster" agreement
between American, TWA, and United 1800
CAB Order 71-8-91 (Aug. 19, 1971), approving the "transcontinental
economic agreement" between American, TWA, and United 1805
CAB Order 72-11-6 (Nov. 2, 1972), approving first extension of the
"transcontinental economic agreement" 1818
CAB Order 73-7-147 (July 27, 1973), approving the 2d extension of the
"transcontinental economic agreement" 1846
CAB Order 72-6-70 (June 16, 1971), approving the N.Y.-San Juan
"economic" agreement between American, Eastern, and Pan
American 1884
CAB Order 72-11-7 (Nov. 2, 1972), approving the first extension of the
N.Y.-San Juan "economic" agreement 1892
CAB Order 73-8-59 (Aug. 10, 1973), approving the 2d extension of the
N.Y.-San Juan "economic" agreement 1902
CAB Order 7a-10-110 (Oct. 31, 1973), approving the "20-market fuel-
related agreement" and the "transcontinental fuel-related agree-
ment" between American, TWA, and United 1913
CAB Order 74-7-105 (July 24, 1974) approving the 2d extension of the
"20-market fuel-related agreement" and the "transcontinental fuel-
related agreement" 1927
CAB Order 75-1-140 (Jan. 31, 1975), approving the 3d extension of the
"20-market fuel-related agreement" and the "transcontinental fuel-
related agreement" 1957
Capacity Reduction Agreements Case, initial decision 1984
Clark County, Nevada, prepared exhibits :
TraflBc in the Las Vegas-New York market, the Las Vegas-Chicago
market, and for the Las Vegas station, before and after the capacity
reduction agreements were initiated 1769
Actual vs. standard load factors. Las Vegas-Denver, Jan.-Mar. 1974__ 1770
Las Vegas markets subject to capacity reduction agreements and dura-
tion of agreements 1772
Bar graph showing deleterious effect of capacity reduction agreements
in Las Vegas-New York and Las Vegas-Chicago markets 1773
Load factors in Las Vegas' agreement markets compared with other
load factor standards 1773
Bar graph showing actual vs. standard load factors. Las Vegas-Denver
market. Jan.-Mar. 1974 1774
Las Vegas-Denver agreement cost Las Vegas $1 million (excluding
gambling) 1775
Clark County, Nev., Richard P. Taylor, attorney for Erie Taylor, letter
to the subcommittee, dated Mar. 27, 1975, commenting upon American
Airlines' letter of Mar. 13, 1975 1776
Delta Air Lines, R. S. Maurer, senior vice president and general counsel,
letter to Senator Edward M. Kennedy, dated Mar. 7, 1975, concerning
E^st coast-Florida load factors. Mar. 1974-Feb. 1975 1710
Delta Air Lines. R. S. Maurer, senior vice president and general counsel,
letter to Senator Edward M. Kennedy, dated Mar. 21. 1975, commenting
generally on the antitrust immunity for interairline agreements 1735
Federal Aviation Act of 1958, sees. 412, 414. 49 U.S.C. sees. 1382, 1384 (1970)
(inserted in the record by the subcommittee for clarification) 1782
XIV
Karth, Joseph E., Congressman, Fourth District, Minnesota, prepared state- Page
ment on the mutual aid pact 2228
Kimbriel, Harry A., Jr., vice president, Alliance One, prepared statement-- 2234
Moser, Herbert H., vice president, Merrill Lynch, Pierce, Fenner & Smith
Inc., prepared statement '_ 2240
Personal outlays on transportation and recreation services as percent-
age of disposable personal income, 1968 dollars, 1953-74 2242
Personal consumption expenditures on purchased transportation as
percent of disposable personal income, 1950-72 2243
Cyclicality of domestic trunk traffic, 1953-69 2244
Relative weight of factors contributing to increase in traffic, 1962-66__ 2244
Seasonality of North Atlantic and Mainland-Hawaii scheduled air
traffic 2246
Distribution of travel by purpose of trip, for automobile and airplane,
1972 2247
Characteristics of nonbusiness travel, by automobile and airplane, 1972 2248
Income distribution of travelers, for automobile and airplane, 1972___ 2249
Domestic trunk and North Atlantic traffic, 1970-74 (by month) 2250
Distribution of 1971 domestic trunk coach traffic, by fare plans 2252
North Atlantic traffic, scheduled vs. charter, 1967, 1970, and 1973 2253
New York-London, summer roundtrip fares, 1972-74 2254
Travel agents' commissions and reservations and sales expense as a
percentage of total passenger revenues 2255
Capital and stock structure comparisons, U.S. trunk airlines and man-
ufacturing corporations, 1961-73 2256
Airline increases in employment costs outpace those of other U.S. in-
dustries, 1965-70 2257
Trunk passenger load factors, 1963-74 2258
Trunk airline stock prices and earnings, 1965-74 2260
U.S. population distribution, 1961-80 2261
Projection of families by income class percent distribution, 1970-80 2262
Income propensity and elasticity of international travel 2262
Peltzman, Sam, professor of economics. University of Chicago, prepared
statement 2265
Trans World Airlines, IMelvin A. Brenner, vice president, marketing plan-
ning, prepared statement (Mar 4, 1975) 2155
Industry load factors, New York-Los Angeles market, before and after
the capacity reduction agreements 2158
Trunk airlines' return on investment, 1955-74 2159
Trunk airlines' load factors, year ending Sept. 30, 1973 2160
Trunk airlines' load factors, Nov. 1973-Jan 1974 compared with Nov.
1974-Jan. 1975 2161
Brief of TWA in the Capacity Reduction Agreements Case, CAB docket
22908 (filed Feb. 7, 1975) 2162
Trunkline airlines' rate of return on investment, domestic operations,
by carrier, 1967-71 2183
Load factors in the transcontinental agreement markets, 1967-71, com-
pared with the load factors of the domestic trunkline operations.— 2185
Percentage changes in domestic trunkline trafSc, 1972-74 2198
U.S., Circuit Court of Appeals for the D.C. Circuit, materials, inserted in
the record by the subcommittee for clarification and documentation:
Air Line Pilots Ass'n. v. CAB, 475 F.2d 900 (D.C. Cir. 1973) 1976
United States v. CAB, F.2d (D.C. Cir. 1975) 2119
U.S. Department of Transportation, John W. Barnum, Acting Secretary,
prepared statement (Mar 4, 1975) <;— V"""
U S Department of Transportation. John W. Barnum, Deputy Secretary,
letter to Senator Edward M. Kennedy, dated July 24. 1974 evaluating
the ATA Rtudv. "Consequences of Deregulation" (p. 139. above) _ --»t)
U S General Accounting Office, partial response to Senator Edward M_
Kennedy's request for an evaluation of the ATA study, "Consequences of ^^^
■npreo-nlation" (p. 139, above) . 7, ;? ""
Subcommittee staff, an insert for the general reader -Pjf -"^ ';7^„^7£
reduction agreements" and giving a chronology of events relevant to the ^^^
hearings of this day
XV
Fetoay, March 21, 1975
TESTIMONY
Alterman, Stephen A., former Assistant Chief, Formal Proceedings Divi- Page
siou, Bureau of Enforcement, Civil Aeronautics Board 2303
Burns, Bernard B., former investigator, Bureau of Enforcement, Civil
Aeronautics Board 2323
Rickey, Robert F., former Assistant Chief, Investigation Division, Bureau
of Enforcement, Civil Aeronautics Board 2326
Weldon, James L., Jr., former Chief, Formal Proceedings Division, Bureau
of Enforcement, Civil Aeronautics Board 2329
Hadlock, Gerald F., former Deputy Director, Bureau of Enforcement, Civil
Aeronautics Board 2336
Knudson, John V., former investigator, Bureau of Enforcement, Civil Aero-
nautics Board 2344
Edison, Peter C, former Assistant Chief, Informal Compliance Division,
Bureau of Enforcement, Civil Aeronautics Board 2348
Rodriguez, Elias C, former Chief, Informal Compliance Division, Bureau
of Enforcement, Civil Aeronautics Board 2349
O'Melia, Richard J., Acting Chairman, Civil Aeronautics Board ; formerly
Director, Bureau of Enforcement, CAB 2350
Timm, Robert D., member. Civil Aeronautics Board ; formerly Chairman,
CAB 2374
EXHIBITS
Civil Aeronautics Board, material inserted in the record by the subcommit-
tee for clarification or documentation :
Alterman, Stephen A., memorandum to the Director, BOE, dated July
12, 1973, on the subject of "contributions : analysis of Federal Avia-
tion Act violations" 2304
Alterman, Stephen A., memorandum to the Director, BOE, dated July
13, 1973, on the subject of "illegal campaign contributions : methods
of proceeding" 2305
Alterman, Stephen A., memorandum to the Director, BOE, dated July
20, 1975. on the subject of "investigation of illegal unreported cam- .
paign contributions: proposed action" 2307
Alterman, Stephen A., memorandum to Chief, Litigation Division,
CAB, dated July 25. 1973, on the subject of "illegal unreported cam-
paign contributions: guide for questioning" (showing questions
subsequently deleted) 2312
Alterman, Stephen A., memorandum to the file on "Unreported Cam-
paign Contributions Investigation," dated July 31, 1973, on the sub-
ject of "summary of action" 2317
Memorandum from Assistant Chief, Legal Division, CAB. to Chief.
Investigation and Audit Division, CAB, dated Feb. 28, 1975, on the
subject of "special audits/political contribution cases" 2336
Memorandum, dated Nov. 5, 1973, closing one of the campaign contri-
bution cases 2345
O'Melia, Richard J.. Director, BOE, memorandum to Chairman, CAB.
dated Aug. 8. 1973. on the subject of "industrywide survey regarding
political contributions by air carriers" 2355
Timm. Robert D.. Chairman, memorandum to Director, BOB, on the
subject of "industrywide survey regarding political contributions
by air carriers" 2356
Stout. Joseph W.. Jr.. memorandum to Chairman. CAB. dated Mar. 7,
1975. on the subject of "political contribu^^ion investigation" 2364
Example of field report of the "industrywide survey regarding politi-
cal contrihuHons by air carriers" (Julv 1973') 2367
Stont, Joseph W.. Jr.. Chief. Investisration and Audit Division. BOE. to
Director, BOE, dated Mar. 18, 1974, on the subject of "completed
invpstisration ca^es" 2368
Gingerv. William M.. former Director. Bureau of Enforcement. CAB. letter
to the .subcommittee, dated Februarv 15. 1975. concerning hi« investiga-
tion of BOE^ investisrntion of the failure of certain airlines to report
certain campaign contributions in 1973 2300
XVI
Kennedy, Senator Edward M., letter to Edward H. Levi, U.S. Attorney
General, dated May 12, 1975, requesting an investigation to determine
w'lietlier Federal criminal laws were violated in connection with sworn
testimony before the Subcommittee on Administrative Practice and Pro-
cedure of the Senate Committee on the Judiciary on Mar. 21, 1975 and in
connection with the CAB's investigation of possible corporate iwlitical Page
contributions by air carriers in 1973 2385
DEPOSITIONS TAKEN BY THE SUBCOMMITTEE
Heye, Thomas, former Administrative Assistant to Robert D. Timm, Chair-
man, Civil Aeronautics Board {deposition taken Mar. 27, 1975) 2387
Stout, Joseph W., Jr., former Chief, Inv&stigation and Audit Division,
Bureau of Enforcement, Civil Aeronautics Board (deposition taken Apr.
18, 1975) 2419
List of witnesses by name and organization 2471
Persons who submitted additional material at the subcommittee's request- _ 2474
Topical index 2475
Volume 1
OVERVIEW OF FEDERAL ECONOMIC REGULATION OF
DOMESTIC AIR TRANSPORT
THURSDAY, FEBRUARY 6, 1975
U.S. Senate,
Subcommittee on Administrative
Practice and Procedure of the
Committee on the Judiciary,
Washington^ D.C.
The subcommittee met, pursuant to notice, at 10:20 a.m., in room
2228, Dirksen Office Building, Senator Edward M. Kennedy (chair-
man of the subcommittee) presiding.
Present : Senator Kennedy.
Also present : Stephen Breyer, special counsel ; Philip Bakes, assist-
ant counsel; Thomas M. Susman, chief counsel; and Lewis Beasley,
assistant to Senator Tliurmond.
Senator Kennedy. The subcommittee will come to order.
OPENING STATEMENT OF SENATOR KENNEDY
The Senate Subcommittee on Administrative Practice and Pro-
cedure is today continuing the examination it began last November
of the procedures and practices of the Civil Aeronautics Board. The
subcommittee has scheduled 7 days of hearings this winter to look into
the CAB's activities relating to rates, entry, enforcement, and
antitrust.
Federal regulation of transportation began in the 1880's with two
objectives : First, to protect the consumer from concentrations of eco-
nomic power, and second, to guarantee that essential transportation
would be available to all Americans. But regulation has gone astray.
What may have been good for the last quarter of the 19th century is a
disaster for the last quarter of the 20th century. Either because they
have become captives of regulated industries or captains of outmoded
administrative agencies, regulators all too often encourage or approve
imreasonably high prices, inadequate service, and anticompetitive be-
havior. The cost of this regulation is always passed on to the consumer.
And that cost is astronomical.
In the transportation area alone, studies have estimated the cost
to the public of Federal regulation to be $8 to $16 billion each year.
That is an unreasonable price at any time. It is wholly unacceptable
under our present economic conditions.
President Ford is asking the American people to absorb billions
of dollars in additional living costs to alleviate our energy problems.
At the same time, he is asking Congress to freeze or reduce spending
on social programs designed to ease the financial burden on those least
able to cope with recession and inflation. The President is predicting
a frightening unemployment rate of over 8 percent to continue during
the next several years.
(1)
51-146 O - 76 - pt. 1 - 2
Americans are being asked to make these harsh and difficult sacri-
fices. Many of these sacrifices cannot be justified on their own; but
they stand in even starker contrast with the continuing drain on our
economy that regulatory agencies impose.
The direct effects of regulation by the Civil Aeronautics Board are
translated into the prices the public pays to get from one city to an-
other— whether for business, pleasure, or family emergencies. Some
critics have estimated that as a direct result of CAB regulation the
public pays from 32 to 47 percent in excess air fares. These inflated
costs are passed on to the consumer by the sellers of goods and services
who must utilize the airplane to transport its products and employees.
CAB economic regulation is thus of vital concern to every American.
Although the way the CAB regulates may be complex, the effects of
that regulation are dramatic and clear.
The administration has asked Congress to create a commission to
study regulatory reform. While I support that proposal, I also believe
that the President and the Congress have a duty to propose something
concrete to bring about reform.
Throughout our hearings we will be asking two questions about
the CAB's practices and procedures : First, are they effective ? Do they
result in reasonably priced air transportation for the consumer and
reasonable incentives for the airlines to provide that service? Second,
are they fair? Do they give the public, as well as the airlines, an ade-
quate opportunity to present their points of view before important
decisions are made ?
Last November the subcommittee began this process by examining
the CAB's decision to set minimum charter rates. We concluded that
in this instance the decisionmaking process operated neither fairly
nor effectively. The CAB's actions in this area will unjustifiably add
millions of dollars to the public's bill for air travel. Subsequently, the
Court of Appeals for the District of Columbia issued an indefinite
stay of the CAB's minimum charter rate policy.
Today, we will begin with a broad overview of CAB policies and
procedures. Next week we will examine the fares and service provided
by intrastate carriers, and the performance of State regulations of
airlines who are not regulated by the CAB. We will ask why State-
regulated airlines in California and Texas provide profitable, unsub-
sidized service at fares that are sometimes 50 percent lower than those
charged bv the CAB-regulated carriers. We want to know the reasons
for these differences. The subcommittee will ask whether, as is so often
charged, regulation by the CAB is responsible for them.
We will go on to review the Board's procedures for determining
proper rates. In the past 14 months, the Board has granted direct
fare increases of over 16 percent. It has eliminated special fares for
children and vacationers, producing an average fare increase of more
than 20 percent. Neither inflation nor rising fuel costs can fully ex-
plain these fare increases.
So again we must ask. is CAB regulation responsible? Do the
Board's procedures ensure that low airline profits lead to quick, auto-
matic, fare increases, while high airline profits are neither quicklv nor
automatically translated into fare cuts? Do its ratemaking procedures
reward the inefficient, unprofitable carriers with industrywide fare
3
increases that efficient carriers do not need and would not impose in a
competitive environmejit? Do the Board's procedures work to produce
rates based on, in the words of tlie P>deral Aviation Act of 1958. the
"lowest cost consistent with the furnishing of adequate service" ? More
fundamentally, if the task of regulating air fares is so inherently com-
plex that imperfections and higher costs will result no matter what
ratemaking procedures are used, then we will ask to what extent
reform can be accomplished by returning the determination of prices
to the marketplace and the laws of supply and demand.
The subcommittee will also analyze the Board's procedures for
awarding routes. It has been claimed that a more flexible entry policy —
a policy that more freely awarded routes to qualified applicants —
would itself help keep prices low. The fear of attracting competition
may also act as an additional constraint on airline pricing policies. Yet
the CAB lias adopted precisely the opposite appioach in recent years.
But, it has never decided to adopt this policy formally, as required by
the Administrative Procedure Act. The subcommittee will examine
the Board's past behavior, as well as its recently announced proposals
for procedural change, to detemnne whether both the public and the
industry are being adequately served by Board actions.
The subcommittee will also look at the CAB's use of its enforcement
powers. We will ask whether the agency has devoted disproportionate
resources to stamping out low-fare transportation charters — air travel
clubs that put pleasure travel within the reach of millions of average
citizens — while doing little, if anything, about airline overcharge.
Finally, the subcommittee will look at the Board's use of its power
to grant antitrust exemption to several carriers who reached agree-
ments to curtail service competition in selected markets. Has the Board
imposed safeguards sufficient to assure that the public will not suffer
unnecessary curtailment of service ? Have the reduced costs of the car-
riers who have curtailed service been passed on to those consumers who
now receive that reduced service? Does the CAB too easily ignore the
policies of the antitrust laws, allowing the airlines to engage in collu-
sive action to divide up markets and profits ?
The scope of these hearings is broad and our time is limited. But
we have been substantially aided by the cooperation of the airlines,
several executive agencies, and the CAB itself. Even before these hear-
ings were announced last December, the airlines and the CAB were
compiling data and submitting responses to detailed and extensive
questionnaires from the subcommittee. Some of our questioTis asked
for data and analyses that neither the CAB nor the airlines had pre-
viously compiled.
The responses have been immeasurably helpful to the subcommittee.
The Board, executive agencies, and the airlines have had an oppor-
tunity to reexamine their own assumptions in preparing for these
hearings. Just last week, I am happy to report, the Board itself
announced that it was establishing an internal study group to re-
examine its functions and the need for regulation. T hope that study
croup will pay dose attention to the evidence we Avill be. developing in
these hearings. The subcommittee will certninlv monitor the progress
of the group's work and will closely study its final report.
The Department of Transportation, the Department of Justice, the
President's Council of Economic Advisers, and the Council on Wage
and Price Stability have lent substantial assistance to our efforts. They
have developed concrete proposals for reform that will be explained
by them during the course of these hearings.
Today, we will hear from several government agencies, some experts
on economic regulation, and representatives of the scheduled airline
industry. These witnesses have been asked to tell us whether there is
a need for reform and to suggest the direction reform should take.
Thus, today's hearing will provide an overview of the major problems
involved in airline regulation. Proposals for reform will be set before
the public by various witnesses, and these proposals will provide a
framework for the examination that will continue more specifically
in the future hearings this month and next.
Our first witness this morning is Mr. John Barnum, who came to
Washington from his New York law practice in 1971 to become Gen-
eral Counsel of the Department of Transportation. In 1973, he assumed
the job of Deputy Secretary of Transportation and is presently Acting
Secretary of Transportation.
As I indicated in my opening statement, the DOT, both Mr. Barnum
and Mr. Binder, have been extremely helpful to us in preparing for
these hearings.
We are pleased to have you with us and we look forward to your
testimony this morning.
STATEMENT OF JOHN W. BARNUM, ACTING SECRETARY OF TRANS-
PORTATION, ACCOMPANIED BY WILLIAM A. KUTZKE, OFFICE
OF THE GENERAL COUNSEL, DEPARTMENT OF TRANSPORTATION
Mr. Barnum. Thank you, Mr. Chairman, and thank you for the
kind words concerning Assistant Secretary Binder and Assistant
Secretary Snow, who are not available at this time.
I would like to introduce William A. Kutzke who has been on the
firing line for the DOT in the CAB proceedings in which the
Department participates.
I would also thank you for your invitation to present the views of
the Administration on the important subject of regulation of air
transportation and how it can be improved.
The Department is vitally interested in the issue. Since DOT's in-
ception in 1967, we have participated in many proceedings before the
Civil Aeronautic Board. In our Board filings, the Department has
been a strong advocate of improving the economic, performance of
air transportation through increased reliance on competitive market
forces. The unifvinff theme that runs through virtually all of our
filings before the CAB is that greater reliance on competitive market
forces will improve the economic performance of the industry and re-
sult in lower, more cost related rates, will reduce excess capacitv, and
will provide the air traveling public with a wider and more desirable
range of service and price options.
I believe we are now at a regulatory watershed. For the past several
months, the Administration has been reviewing the transportation
regulatory system with a view to improving both performance and
economic efficiency. The reform proposals presently being prepared by
the Administration mark a major departure from the regulatory
regime we have relied upon in the past. The Administration will
submit to Congress in the near future a proposal which will funda-
mentally redirect our air transportation reoulatory policy. Your hear-
ings, therefore, come at an opportune moment. Today I will outline
the Administration's position on reguhation of air transportation.
The need for an air regulatory reform act is demonstrated both by
economic research and by our experience. At present, for example, air
carriers, sliippers, and passengers frequently face a web of restrictive
government regulations which stifle competition, discourage innova-
tion, and foster inefficiency. In many respects, tlie present air regu-
latory structure is outdatecl, inequitable, inefficient, uneconomical, and
sadly irrational. It often misplaces incentive and disincentive, disorts
competitive advantage, protects inefficient carriers from effective
competition, over-restricts market entiy, artifically inflates rates and
misallocates our Nation's resources. Under the current system, many
consumers pay an artificially inflated price for air transportation
because rate setting, unnecessary entry restriction, capacity agi:eements
and other forms of shelter from competition sanctioned by the Board
protect the least efficient carriers, permit rates substantially above an
efficient cost level and distort competitive market forces. The resulting
economic waste and associated inefficiency is substantial.
The present air regulatory system is the product of a different era.
While the needs and conditions on which air regulation was first pre-
dicted some 40 years ago have changed, the goals and practices of
government regulation Jiave not. It is unfortunately a truism that
regulation begets further regidation and that regulations outlive their
rationale.
I fully agree with the statements you made in your opening remarks
that regulatory practices developed 40 years ago are not suitable to the
last quarter of this century.
In 19-38, when the Civil Aeronautics Act Avas passed, goveniment
assistance through protection, subsidy, promotion, and regulation was
a necessary factor in the development of a new and strujrgling in-
dustry. Tliirtv-seven years later, conditions have changed. The air
tra.vei marketis mature. Traffic has grown. Growth has led to stability.
The industry is vigorous. But this i-egulatory system which protected
it and made it that way has not kept pace.
The problems once faced have bee]i largely solved, ^ow we are faced
with problems that are a by-product of that success. The promotion
which once fostered growth now causes inefficiency. The restrictions
whicli once guaranteed stability now retard competition. The regu-
latoiT protection which once insured existance now prevents sayings.
We need a better system which comes closer to producing optimum
social and economic results, one which maximizes efficiency, economies,
and consumer options and which produces the best mix bet^^ een low
cost and high quality service.
cab's first major power: fares
The most pressing problems in the airline regulator}' field cluster in
three broad areas — ratemaking and pricing flexibility, market entrv^
and exit, and anticompetitive agreements. Each area is in need of re-
form. Let me identify what we see as the future direction which the
Administration suggests.
6
A major difficulty with CAB policy has been ratemaking and the
carrier inability to raise and lower rates in response to the demands
of the marketplace. This in turn forces carriers into costly and un-
economic service competition, deprives the traveling public of the
range of price and service options which would otherwise be available,
and results in substantial economic waste and inefficiency.
Section 404 of the Federal Aviation Act requires carriers to estab-
lish just and reasonable rates. Section 1002 permits the Board to
prescribe maximum or minimum rates if it is of the opinion that the
rates charged are unjust, unreasonable, preferential, or discriminatory.
In deciding whether a rate is too high or low the Board takes into
account, among other factors, whether the rate is compensatory, pro-
viding the carrier with sufficient revenue.
The result of the Board administration of these sections has been
the elimination of price competition, thereby restricting competition
to service. Passengers find airlines competing for their patronage
through elaborate cuisines, free drinks, attractive stewardesses, multi-
colored planes, and piano bars. But they do not have a menu where
different quality service is related to different prices. This is a serious
loss.
Many passengers would prefer the opportunity to select carriers
based on price in addition to type of service. Some passengers would
prefer high-load factor, low-frill, low-fare service. Others are willing
to pay for more comfortable and more costly service. Present pro-
cedures do not produce that variety of price and service options. Often,
present regulation causes fares well above those which would occur
in a more competitive air transportation market. With prices fixed at
levels above market rates, carriers compete on the basis of service.
Such service competition produces substantial unused capacity and
unnecessarily low-load factors, presently averaging about 57 percent
in the domestic market. In the transcontinental market, for example,
rates are set sufficiently high to permit the carriers to earn a reasonable
return with load factors in the mid-40-percent range. DOT believes
that many transcontinental passengers would prefer the minor incon-
veniences associated with higher load factors in return for less expen-
sive tickets. In a more competitive market, carriers would respond by
providing such low-cost service.
One recent study showed that, at an average load factor of 75 per-
cent, prices could be 27 percent lower than at a 50-percent load factor.
While 75-percent load factors are unrealistic in most markets, this
example illustrates the potential savings associated with pricing
flexibility.
"zone or reasonableness" for fares
Present Board policies encourage lower than optimal load factors.
dot's testimony in the CAB's Domestic Passenger Fare Investigation
showed that when load factors increase beyond a break-even level
(defined to include profits), carriers schedule additional capacity,
thereby lowering load factors to the break-even level again.
Because of this inflexibility, in the Dojriestic Paasenger Fare Investi-
gation, DOT, among other things, urged the Board to establish a 15-
percent "zone of reasonableness" above and below the fare structure
curve. The zone would not apply in monopoly markets, as defined by
the CAB, where the Board would continue to review and suspend
rates. Within the zone, carriers would be permitted to compete on the
basis of price, free from regulatory interference. Outside the zone, the
Board could continue to suspend rates it believed unlawful under its
ratemakino; standards.
Senator Kennedy. Why wouldn't some of the stronger official car-
riers just lower their rates until they drive the competition out?
Mr. Barnum. That might be the result if you didn't simultaneously
make a change with respect to your entry. If you do make the con-
comitant change in entry, in the event you suggest another carrier
would come into that market, when rates rise above a competitive level.
Senator Kennedy. But how can a carrier come back in? I would
think it would take a very considerable amount of investment, and
once they get right back in, the fare could be lowered again to drive
them out. I would think the people would bet the idea pretty quickly
after two or three people lose their shirts.
INIr. Barnum. Many of the markets you are talking about are mar-
kets that could be served or not served by existing carriers.
The easy case, of course, is a market in which a carrier serves both
end points anyway, let's say New York-Cincinnati. TWA may be
serving Cincinnati from Chicago, and New York from a number of
places. It drops the New York-Cincinnati leg for one reason or
another, or perhaps it is not now in the New York-Cincinnati leg. But
if other carriers were to raise fares as you suggest, TWA would
promptly go right back into the New York-Cincinnati market. That
is the easy case.
The more difficult case would be a market where a carrier did not
have a base at one of the end points.
In any event, you must have a different practice with respect to
entry in order to make rate flexibility meaningful and to avoid the
very result you are talking about.
Senator Kennedy. How do you know they just wouldn't go ahead
and charge the ceiling, too. Perhaps if one carrier found out that
another is going up to the ceiling, the first carrier would say, well,
since Airline X is charging the ceiling and getting a good return
on investment, I think we will, too, and then we would end up having
the same kind of competition that you have outlined earlier?
Mr. Barnu:\i. Well, I think you would find there would be a number
of carriers that would charge a higher rate at those times of the day;
for example, where there is such a demand that they can get it.
But what we would like to see happen is illustrated in the hypotheti-
cal case of Chicago-Los Angeles. It may be that the 6 p.m. flight would
find a rate toward the high end of the zone because there is high
demand for it, there are a lot of people that want to fly at that time,
and indeed the major carriers, the trunkline carriers, might charge
the same rate at the high end of the scale. But price flexibility would
permit them to charge a lower rate during the middle of the day when
they could attract people to use planes now operating with a lower
load factor, such as the 2 p.m. flight, when there is not such a great
demand. You could get price flexibility which would spread out the
demands of the airline and increase the load factor, which is what we
are really shooting at.
8
The limits of the zone we proposed in DPFI ensure that neither
dramatic price increases nor destructive price competition would en-
sue. The Department position rested on the premise that greater reli-
ance on market forces would result in the establishment of rates based
on costs and would afford the public a wider and better range of price
and service options. We emphasize that the lack of price competition
in the air industry was the primary cause of "seat wars" and other
service competition which resulted in undue unused capacity and in-
flated cost levels.
In its Domestic Passenger Fare Investigation decision, the Board
did recognize that fares should be more closely alined to costs. It
largely adopted our conclusion that low fares for short-haul passengers
should not be subsidized by higher fares for long-haul passengers.
SMALL TOWN SERVICE (CROSS-SUBSIDY)
Senator Kennedy. Well, now, I come from a part of the country
where we had up to — well, the last 8 or 9 years we had service into a
number of smaller communities in Massachusetts. We had air service
into New Bedford, Worcester, Springfield, down in Hyannis, and of
course that was replicated in a variety of different smaller communi-
ties all over northern New England.
As you are probably aware. Northeast flew in New England and
then they got their ticket to go down to Miami and they primarily
focused on that, and they claimed at least to use cross subsidy. They
abandoned New England routes. I think there is one flight a day in
through Hyannis and the Islands, and the smaller airlines have taken
over, and let me say quite frankly they have been very good, at least
in our part of the country, at least in the areas of New England in
which I have traveled.
But if you reject the cross-subsidy argument aren't you just saying
that you are virtually abandoning some of these smaller communities,
that maybe they will, as took place down on Cape Cod, with Down-
East Air Lines or Pilgrim Air Lines that fly out to Provincetown ;
aren't you really saying to smaller communities — and I am sure this
is true* in other parts of the country— you fellows are on your own.
If there is an enterprising smaller company that can put together the
financing and find the pilots and all the rest, maybe you will get good
service, but otherwise you are on your own. Aren't you telling that to
hundreds of smaller communities all over the country by this
suggestion ?
Mr. Barnum. I think not. I think we should avoid confusing a num-
ber of the subelements of the cross-subsidy question.
The principal issue addressed bv the Board in the Domestic Pas-
senger Fare Investigation proceeding I am talking about came up in
the context of fare construction and the way in which an airline should
build up its fares related to its cost : A certain amount to ticket the pas-
senger ; a certain amount per mile for the first 500 miles ; and a de-
creasing amount for further miles. , .
We felt at that time the long-haul passenger was subsidizing the
short-haul passenger. For example, because the passenger going from
New York to San Francisco had very few other ways in which to take
that trip, the airlines were able to charge him a higher fare relative
to cost than they were in the situation, say, from Boston to New York,
where there were alternative means of transportation and where the
air carrier had to take into account the fares of Amtrak and of inner-
city buses. Because of the intermodal competition, the shorter haul
fares were lower and, to a degree, we felt, cost-subsidized by the long
hauls. That is just an economic analysis of what it costs the air carrier
to operate long haul and short haul. That is the cross subsidization
that we objected to. and the CAB objected to, in Phase 9 of the Domes-
tic Passenger Fare Investigation.
I think that position is entirely appropriate and I don't think your
question was really criticizing that kind of position on cross-
subsidization. So I would like to put that asifle for a minute.
I would also like to put aside the problam created by seasonal
demands. When you talk about the Islands and Cape Cod — and I fly
those same flights myself — you are talking about a seasonal demand,
and that obviously presents a separate problem.
But let's talk now about the smaller communities that are in
jeopardy of not getting continued service, if that service is not eco-
nomic and cannot be cross-subsidized by the profitable routes that the
carrier services. Now, of course, there is at the present time a local
subsidy operation available to the CAB. It is exercised now at the
level of about $68 million last year and about $66 million in the forth-
coming budget. By and large, local subsidies have been going down,
relatively, as inflation has come along.
To the extent that a trunk line cannot economically serve a smaller
community, we do not think it should be required to continue to pro-
vide that service. In the last 5 years, we have seen a dramatic sub-
stitution of second level service for some of the trunkline service that
previously existed. The very region of the country you are talking
about is a dramatic example of that. Allegheny has provided substi-
tuted service in a number of cities that it previously served or that
Mohawk served prior to the Allegheny-Mohawk merger. New England
speaks very well to the point that many carriers in a less regulated
climate would be prepared to come in and provide the service that
you are talking about.
The specific proceeding before the CAB on New England service
laid out a good record where service could be provided by trunk car-
riers and secondary carriers, and it also gave you some evidence that
intercity passenger services such as buses were available to get people
from Bangor to New York or Bangor to Boston and there was not
the need for certificated air service as existed in some other parts of
the country.
I agree with you that it is something we have to keep our eye on,
but I don't believe you should permit cross-subsidy as the answer.
Would you like me to pursue that?
Senator Kexxedy. Why don't vou continue. We will come back to
this.
DESTRUCTIVE COMPETITION
Mr. Barnum. The Board was unwilling at that time, however, to
adopt the broader principle of pricing flexibility, constrained only by
costs.
10
Senator Kennedy. In reaching this position you must have done
some work or some studies that would give you some assurances that
you wouldn't have cutthroat competition in this kind of thing and
drive people out of the market. Have you studied this in reaching this
decision on pricing flexibility and expediting decisionmaking? What
about cutthroat competition that would destroy the competition basi-
cally ? You are satisfied that that won't be the case ?
Mr. Barnum. We are. We did do just that examination and we
submitted some of that evidence in Phase 9 in the Domestic Passenger
Fare Investigation.
I think if you combine this with easier entry provisions, you would
not get the cutthroat competition to drive competitors out. We are
not talking about requiring the CAB to permit destructive price
competition. If you will permit greater flexibility entry, you will
get threshold pricing in these markets so that the carriers who are
in these markets will price at a level just high enough to discourage
the other carriers able to come in from coming in because the very
startup costs will prevent them from coming in and making it
Senator Kennedy. "S'ou think that this threshold cost is the most
effective cost for the consumer?
Mr. Barnum. That has got to be the most effective cost to the
consumer; yes.
Now, there has to be a basic cost element in here that, of course,
we in the Department of Transportation are always mindful of. We
are not just talking about selling oranges. We are talking about selling
air transportation. There has to be a very basic and substantial cost
here for safety. We are mindful, as I am sure you are, of the ingre-
dients of operating an airline. We are not in any way inviting you to
open up the pricing of transportation so that safety would be
derogated.
Another procedural problem associated Avith pricing is CAB delay
in deciding whether rates are reasonable.
SAFETY AND COMrETITION
Senator Kennedy. Have you got any study about the performance
of new carriers in the area of competition on the basis of safety ? Have
you drawn any conclusion or made any study of how much of an
issue tliat would be or Avliether that is a question to be resolved?
Mr. Barnum. It hasn't been an issue among trunk carriers because
there haven't been any new trunk carriers. It is an issue when we talk
about air taxies, and "this is a very serious problem. I am afraid our
record of accidents of air taxies is not as good as we would like. A
lot of these people are starting up and do not have all the elaborate
safety practices and manuals the trunk carriers have been able to
develop over the years.
Senator Kennedy. Wliat about intrastate carriers, in terms of safety.
Isn't that a problem ?
Mr. Barnum. I think the safety record of the principal intrastate
carriers is excellent.
Senator Kennedy. But how will you make sure that is going to be
the case in other places?
Mr. Barnum. Well, of course, the FA A has broad authority with
both certification of types of aircraft and maintaining the operating
11
status of aircraft. That is really more an FAA function. It would
address itself to any type of aircraft being operated, I agree Avith
you, however, that it is something we should continue to keep our
eye on, but given that mandate to the FAA, I think we can put it to
one side.
Mr. Barxum. I made reference to the CAB and its procedural delay
in deciding whether rates are reasonable. We believe the CAB should
be required to render a final decision on rate proposals promptly.
Also, streamlined procedures should enable the Board to dispose of
some cases on the basis of pleadings alone, without formal hearings.
Large-scale investigations such as the DPFI may take longer, of
course.
The Administration strongly supports greater pricing flexibility
for the airline industry. We expect that our legislation will incorpo-
rate proposals for pricing flexibility and expedited decisionmaking.
cab's secoxd major power : industry extry and route entry
Another major problem with the present regulatory system is the
Board's restrictive entr}^ and exit policies. These policies have also
restricted competition and increased costs to consumers.
Section 401 of the Federal Aviation Act gives the CAB control over
entry into the industry; the Board is given authority to determine
which carriers may operate in scheduled interstate service and on
which routes they may operate. The applicant must be found fit,
willing, and able to perform the service properly, and the transporta-
tion must be required by public convenience and necessity. CAB per-
mission is also required for exit.
In practice, industry entry has been tightly controlled. Other than
the 16 carriers operating when the 1938 act took effect, there has not
been a single new trunk carrier certificated in the Board's history.
Through merger, the 16 original trunks have shrunk in number to 10
which account for 90 percent of the total domestic market. The Board
has. however, certified local service carriers, some of which are now as
large as the smaller trunks.
Until recently, and especially in the late sixties, existing carriers
were granted applications for ncAv routes, thereby substantially re-
ducing the number of monopoly markets. In the last few years, how-
ever, the CAB has put into effect a de facto moratorium on route
awards. Xew route applications have not been set for hearing; proc-
essing applications which had ben set for hearing has ben delayed.
The restrictive policy with respect to new carrier entry into the in-
dustry has now been matched by a restrictive policy with respect to
new route entry for established carriers.
The economic result of a restrictive CAB policy is that carriers do
not enter and leave markets solely for business and profit reasons. New
firms are discouraged by the standards applied and by the results
they see. including the high cost of the application process and the
delay in Board decisionmaking. The Board has protected incumbent
carriers rather than encouraged healthy competition. As a result, in
the majority of trunk markets, most passengers are carried by only
one or two airlines.
The administration does not necessarily believe that additional
carriers are required on every route to improve the working of the air
12
transportation system. We do believe, however, that the present system
removes the ability of the carriers to adjust services and realine the
markets they serve as economic conditions warrant. This results in
increased costs to the public.
The present system also does not recognize the importance of poten-
tial competition as an economic force. Thus, the carriers on an existing
route need not be concerned about new competition unless the Board
has a route case pending. In such circumstances, the existing carriers
may be less diligent in providing the type of service and price and
quality options desired by the public than they would be if they were
aware that a competitor could enter at any time to provide new or
better service.
cab's charter restrictions
Another way of improving competition is by liberalizing charter
rules and thereby offering the consumer a broader range of price and
service options.
Senator Kexnedy. Is your view consistent with the minimum
charter floor the DOT was pushing last year ?
Mr. Barxum. I would like to clarify the minimum charter floor. I
believe that as a result of the hearings you held in November, efforts
were made to portray as much controversy within the administration
as possible, and there was a good deal of confusion.
I think that what we were saying
Senator Kennedy. Well, we are glad to get the real story, now.
Mr. Barnum. At that time we were talking in the context of Ad-
ministration's seven point action plan that was directed to the inter-
national flag carriers. It dealt with the ways in which we could im-
prove the economic climate and practices of Pan Am and TWA and
those international carriers that were suffering from the economic
circumstances of a flat or decreasing international market and huge
fuel cost increases. We did consider among other things, the relation-
ship between scheduled fares on the North Atlantic and charter fares.
At that time there was still debate as to what the scheduled fares
should be, and lATA had not yet come in with a total package for
CAB approval. It was difficult for lATA to come in with a package
for scheduled fares because they did not have any idea where charter
fares would be.
We thought that to aid lATA agreement or at least to facilitate
informed decision by the scheduled carriers, it would be useful if there
were from the CAB some indication of criteria for a floor, if you
will, at which charters would operate.
Now, what has been misunderstood here is that we were not talking
about having a charter fare level that would permit all charter oper-
ators, efficient and inefficient, to make a profit. What we were talking
about was some indication as to where charter rates would be so that
the scheduled carriers could predicate their fares in relation to the
charter floor.
There is a debate still raging as to the degree of CAB's authority to
set a charter floor either by notice or proceeding, and that I think we
best leave to the CAB and the courts to thrash out.
Senator Kennedy. Senator Cannon has introduced the bill to make
charter service more widely available, which I had the pleasure to join
him on [S. 421]. Do you support that legislation?
13
INIr. Barnum. We are going to be testifying before Senator Cannon
next week. We are in the process of developing onr position on that
bill. There is much in it that we have supported in the past with
respect to ITC's and other forms of charter. We have opposed the
CAB proposal to drop affinity charters, and I am glad to see the CAB
has delayed its decision in that respect.
We do think, particularly at a time when we are interested in getting
more people into fcAver planes, that the charter business is one way in
which we should be able to increase low-cost transportation with sub-
stantial savings in energy. We are, therefore, encouraged to see Senator
Cannon and yourself and others focusing on this very important issue,
and we will address it specifically in the next week.
Senator Kennedy. INIr. Ginther is here, who is the staff director of
the aviation subcommittee. So you will be seeing a lot of him next
week.
Mr. Barnum. The Administration believes a fundamental shift is
required away from over-protection of existing carriers to one which
focuses on consumer needs and requires that more weight be placed
on competitive principles in evaluating new applications for entry.
We also believe that the CAB should not be permitted to delay deci-
sionmaking as a means of limiting entry.
SMALL TOWN SERVICE (CROSS-SUBSIDY)
Route exit has in some cases also been restrained by the CAB.
While we recognize the importance of service to communities of vary-
ing sizes, carriers should not be forced to lose money or operate on
the assumption that other routes will subsidize those producing in-
adequate revenue. Cross-subsidies are inefficient economically and in
practice do not work.
AVhere communities deem service essential, the carriers operate at
a loss, and the route does not justify Federal subsidy, alternatives
must be considered. These alternatives include replacement services by
another carrier or subsidies by the community itself.
In this regard, I should note that we will not propose any immediate
changes in the local subsidy program. However, we believe the CAB
has an obligation to identify the cost of such subsidies by route and
by city. This has not been done.
The Administration strongly supports liberalization of entry into
the air carrier industry and our forthcoming proposal will provide
for substantial entry and exit liberalization.
CHAOS
Senator Kennedy. How do you respond to the point that this is
going to let a lot of fly-by-night outfits come in and skim the cream
off the top on the most heavy traveled routes, and lead to instability
in these major market areas?
Mr. Barnum. Putting aside the safety question, I think that my
comments earlier about threshold prices are my first answer.
My second answer is you really can't startup an airline overnight
and start providing the kind of cutthroat, cut price service that you
are talking about. The CAB, of course, is going to have to certificate
them as a carrier and the FAA authorize them to operate. I think it
would be a rather fool-hardly enterprise for someone to invest, even
on a lease basis, in the expensive equipment that would be required
14
to provide air transportation. It is not a business susceptible to a
fly-by-night operation.
Senator Kennedy. So I gather you have considered the possibility
that instability and disruption of service might occur, and you are
satisfied that, on that point at least, there is no real difficulty with more
competition.
Mr. Barnum. Yes. I am certainly satisfied in that respect. I ani also
satisfied that, given the economics of the air carrier industry, the likeli-
hood of a fly-by-night operation and being able to skim the cream off
a major market in the face of already entrenched competition from
name carriers is not very realistic.
Obviously, it is something that needs to be watched very carefully.
But I would not say that the activities, for example, of PSA and
Southwest — going into the intrastate market at what was initially
about a 40 percent cut below scheduled fares — demonstrate an unde-
sirable result. I think it is a very good result. If that is the consequence
of a fly-by-night entry, I would say that would be good.
Or, for example, where carriers operate in very high density mar-
kets, this kind of service is likely to be air shuttle-type service at which
they have hourly service and they may or may not have a high load
factor, depending on whether or not they have to add an extra plane
a day. It is basically a no-frill service, and I would welcome that. But I
would not be concerned about there being a fly-by-night entry into that
market.
If another one of the major trunk lines saw a market that it thought
it could impact and enter under our relaxed entry provisions and pro-
vide a shuttle from New York to Detroit, for instance, I think that
would be very helpful.
Our air carriers are very concerned as to how they can keep their
aircraft operating. Their goal is to get up to 11 or 12 hours a day. They
will schedule aircraft not because of where people want to go to, but
where they can move airplanes, where they can continue using them
into the night. For example, if they go west at a particular time of day,
do they get there in time to be able to fly on the west coast at a particular
time? How do they position their planes? Those are very important
considerations in the total operation of an airline.
To the extent you give carriers freedom of entry, or more entry than
they have now, you will enhance their ability to use their aircraft and
to react quickly as the market changes or, as indeed, as their competi-
tors decide to move in or out of a market.
But I would not regard the possibility of a fly-by-night operation as
derogating from the services of a scheduled carrier.
cab's third major power: antitrust immunity CAPACITY
REDUCTION AGREEMENTS AND OTHERS
I would like to move on to the third area where regulatory practices
can be improved.
One of the most objectionable features of present CAB regulation
is the approval of capacity reduction agreements in our domestic mar-
kets. At present, under section 412 of the Federal Aviation Act, if the
Board finds capacity, pooling and other anticompetitive agreements
15
not adverse to the public interest, it may approve them ; in so doing,
it immimizes them from action under the antitrust statutes.
Capacity agreements were originally justified because of immediate,
short term, severe financial distress. The Board has since permitted
use of capacity agreements to resolve problems of unused capacity, fuel
allocation, and low profits in certain markets. By apportioning ca-
pacity, such agreements effectively determine market share. As a result
of Board actions, capacity limitation agreements have proliferated to
the point where about 29 percent of the revenue passenger miles of the
three largest carriers are now covered by capacity agreements. One
economic effect is that, given the level of service provided, fares in
covered markets are excessive. One can scarcely imagine agreements
more anticompetitive in their effect. Such problems are far better re-
solved through market forces operating in a competitive environment.
DOT opposed the capacity agreements before the Board and has
joined with the Antitrust Division of the Justice Department to
oppose approval of the agreements before the District of Columbia
Court of Appeals.
In contrast, some agreements arguably subject to challenge under
antitrust laws do serve valid transportation objectives. These include
interline agreements, airline scheduling committee agreements at con-
gested airports, equipment leases, fuel supply agreements, reservation
and ticketing arrangements and technical agreements with foreign air
carriers.
We distinguish between the two types of agreements, the one anti-
competitive in a way w^iich contributes to economic inefficiency, the
other which meets necessary transportation objectives. The Adminis-
tration believes that anticompetitive agreements such as those for ca-
pacity limitation should be restricted or eliminated but that agree-
ments which serve efficient transportation needs should be continued.
Senator Kennedy. If the agreements are not in restraint of trade
then they don't violate the antitrust law in any event. These areas that
you have outlined seem to be reasonable agreements, so why do you
need the exemption, in any event?
Mr. Barnum. There are some agreements between carriers that we
think are appropriate, that either arguably or clearly might result in
litigation. They might be regarded as allocation of market or market-
share agreements. Some of the joint fare agreements they have could
be regarded as price fixing or market-share agreements.
Senator Kennedy. As I understand the lawyers, it is only if an inter-
carrier is unreasonable, that the exemption is necessary. If it is rea-
sonable it does not violate the antitrust laws, even though it is an
agreement ?
Mr. Barnum. What constitutes reasonableness under the Sherman
Act is a very tough test to pass. Even putting aide merger agreements,
just agreements with respect to ticketing costs or even use of airport
at a particular time could be regarded as an anticompetitive or an
agreement in violation of the Sherman Act. "Wliat constitutes reason-
ableness in the Sherman Act is not what a non-antitrust lawyer
Senator Kennedy. Would you be reassured by what the Department
of Justice has said ? Do you think tliey have a fair opinion in temis of
the governmental policy, and that their input would be guided by the
legal arm of the Government?
16
Mr. Barnum. I would be very pleased to have their input. I do not
think, however, you would find any disagreement between us as to
the meaning of reasonableness insofar as agreements between competi-
tors is concerned. So far as existing law requires, I think you will find
there is agreement.
However, we distinguish the two types of agreements, and I will
say we should continue antitrust immunity for certain types of agree-
ments. In our judgement, however, the airline industry is strong
enough to survive and prosper without blanket antitrust immunity.
Section 408 of the act authorizes the Board to approve mergers.
Mergers may be permitted unless the Board finds that they will be in-
consistent with the public interest, would create a monopoly and
thereby restrain competition, or would jeopardize another nonpaity
carrier. In our view, the standard used by the Board in determining
whether mergers or consolidations are approved should be changed to
require that competitive principles be weighed against transportation
needs.
In dot's filings to date, we have encouraged the CAB to find less
anticompetitive solutions to many of the problems I have discussed.
It is now clear that more decisive reform is necessary. In times of
inflation, recession, and energy difficulties, the Nation can ill afford the
extravagances created by the present air regulatory system. The
administration proposal will get to the heart of the difficulties in each
of the areas discussed by changing the regulatory structure which
helped produce them. The air regulatory reform bill which we will
present will address each of these issues in detail and will implement
the basic policy objectives which I have outlined in my testimony.
We look forward to working with the subcommittee to explore each
of these areas in more detail. We share the desire to modernize our
regulatory structure and let the fresh air of competition make our
transportation industry operate more efficiently at lower cost to the
consumers we serve.
Thank you very much, Mr. Chairman, and if I can answer any
additional questions, of course, I would be more than pleased to try to
do so.
Senator Kennedy. Well, we want to thank you for your presenta-
tion, and I think it is really an indication of the desire of the Depart-
ment of Transportation to carry forward what President Ford out-
lined in his state of the Union address in identifying the regulatory
agencies as a matter of concern, and trying to make them more effec-
tive, and obviously, as far as your Department is concerned, you are
willing to move ahead in these directions even prior to the time of the
development of a commission to deal with it. I think that that is really
a credit to the De^^artment.
Mr. Barnum. Thank you.
NEED FOR LEGISLATION
Senator Kennedy. Let me ask you — are you satisfied these steps can
be taken without new le<rislation?
Mr. Barnum. I think that new legislation would accelerate the steps
that we have outlined. Most of the things that we have discussed could
be done by the Board — to approach entry and exit, for instance — dif-
17
ferently than it is done. Certainly, in our judgment, the Board has
authority to provide greater price flexibility than it has in the past,
I think in general they could do much of what we recommend under
existing law.
Senator Kennedy. Is there anything they could not do under their
existing statute?
Mr. Barnum. No; I think they could adopt as Board practice, if
you will, the time limits that we have suggested with respect to entry
and exit and rate changes. They have not. As I stated, some of the
proceedings have been unnecessarily protracted or put on the shelf,
which has frustrated much of the innovation that we think is avail-
able to the industry.
I would urge this subcommittee — if you find the Congress is not
prepared to make substantive amendments to the act — to point out
ways in which you believe that the existing law and the practices
appropriate under the existing law liave, in fact, not been followed.
Senator Kennedy. "Why do you not think that the CAB has seen the
problem the way that you have seen it here and moved on its own into
these particular areas? You have no monopoly or expertise or under-
standing of these particular issues. What is your view about why they
have not moved into these particular areas before ?
Mr. Barnum. Well, as I mentioned in my statement, the CAB
evolved from an aq-ency that was established to encourage a new indus-
try as it was growing, an industry which required a certain amount of
encouragement and protection, and which required a certain amount
of regulation so that there Avould not result, in its early days, the type
of cutthroat competition which you have described or the type of fly-
by-niijht entry into the marketplace. But T think now that the industry
is stabilized. Nonetheless, many of the things "v\e think the CAB should
do differently it is continuing to do the same way it did when the
industry was developing. The way they address a problem today is
the way they addressed it 10 years ago. I think we have gone past the
point where we should continue business as usual with respect to the
air carrier industry.
APPOINTMENT OF CAB MEMBERS
Senator Kennedy. Do you think part of the problem has been the
appointment process, the selection of people that have been selected
and have had a strong orientation toward the industry, perhaps?
What role, if any, does the DOT' have in making recommendations
for the CAB?
I am not trying to personalize this, but I am interested in what your
impression would be, not limited to any particular administration, but
just as a practice.
Mr. Barnum. AVell, I share A^our concern in this respect. I think that
I would judge the CAB by its rules and not by its personalities.
I think that the Board could be a more effective instrument in the
regulation of air transportation, and it may very well be that those
who constitute the Board are an essential ingredient in making it more
eft'ective. I think it is, in part, the tradition into which each new mem-
ber of the Board steps as he joins the Board and finds out the way
they have done things in the past and the rules of the past. And I think
51-146 O - 76 - pt. 1 - :
18
the CAB is guided in part by stare decisis, its own decisions in the
past, A new member has not been given a mandate by Congress to
change what the Board has been doing in the past.
For someone to join the CAB, and to go in there and say, "No; that
is all wrong, the statute means otlierwise'" — I think he would be trying
to upset a great deal that the courts have written about and the Board
has written about, and certainly, as a newcomer he would feel he had
better find out how the Board works,
1 think also the Board has been concerned about continued prosper-
ity in the air industr}', and properly so. To the extent that it has put
siich great emphasis on that, however, I think that lias been a mis-
take. I think making a goal of 12 percent return on investment as a
principal guiding factor in Board decisions is a mistake. I would be
much more interested in seeing the Board trying to focus more on
increasing load factors in its pi"icing decisions and as a result both
saving energy and mailing the carriers more profitable.
With respect to our role in the Department as to who goes on the
CAB, we are consulted, of course, by the "\ATiite Plouse in connection
with CAB appointments and asked for recommendations and asked to
comment on people that have been recommended by others.
Senator Kennedy, Are you listened to over there ?
Mr. Barxum. I think so.
Senator Kennedy. Good.
As the result of our November hearings, the staif marie some sug-
gestions wdth regard to procedures in establishing a minimum rate
policy, and I understand you had some people looking at these recom-
mendation and determining how they might be implemented. T am
just wondering if you are prepared to say anything about that today?
Mr, Baknum. Not at this time, sir.
Senator Kennedy. ^\^ill you let us know at the earliest possible time
what are your reactions to those recommendations?
Mr. Barnuim, I would like to advise you promptly or as promptly as
I can just what our timing is with respect to commenting on those
recommendations.
[The comments referred to are contained in a letter from DOT to
Senator Kennedy which is printed at the end of Mr. Kutkze's testi-
mony on February 18, 1975, See below, pp. 691-92.]
Senator Kennedy. I suppose on the matters that you have mentioned
here this morning, which are extremely significant, that you will be
developing those proposals and reconnnendations in greater detail?
Mr. Barnum. Yes.
Senator Kennedy. Will you keep us informed how those are being
developed ?
Mr. BARNu:\r. We are in the process of discussing with the other
agencies of the executive branch the various details of the three main
areas that I have outlined to you. I would hope that we could continue
to hnve the dialog betAveen our several agencies and vour staff and Mr.
Ginther and the staff of the Commerce Committee. We want to achieve
somethin<i that is meaningful and realistic in terms of positive enact-
ment and that will addr-ess the basic issues that we see.
Senator Kennedy. Well, we ha-^-e enjoyed that cooperation in the
past, and A^e have no reason to feel that it would not continue in the
future. For that, we are very appreciative. T think it is a strong indica-
tion of the ability of the Congress to work with the administration
19
and the agencies. We appreciate that and we have found it very in-
fo raiative and very helpful.
I want to thank you very^ much. That has been a good presentation.
]Mr. Barnum. Thank 30U, INlr. Chairman.
Prepared Statement of John W. Barnum
Thank you for your invitation to present the views of the Administration on the
important subject of regulation of air transportation and how it can be improved.
The Department is vitally interested in the issue. Since DOT'S inception in
1967, we have participated in many proceedings before the Civil Aeronautics
Board. In our Board filings, the Department has been a strong advocate of im-
proving the economic performance of air transportation through increased re-
liance on competitive market forces. The unifying theme that runs through vir-
tually all of our filings before the CAB is that greater reliance on competitive
market forces will improve the economic performance of the industry and result
in lower, more cost related rates, will reduce excess capacity and will provide
the air traveling public with a wider and more desirable range of service and
price options.
I believe we are now at a regulatory watershed. For the past several months,
the administration has been reviewing the transportation regulatory system with
a view to improving both performance and economic efiiciency. The reform pro-
posals presently being prepared by the administration mark a major departure
from the regulatory regime we have relied upon in the past. The administration
will submit to Congress in the near future a proposal which will fundamentally
redirect our air transportation regulatory policy. Your hearings, therefore come
at an opportune moment. Today I will outline the administration's position on
regulation of air transportation.
The need for an air regulatory reform act is demonstrated both by economic
research and by our experience. At present, for example, air carriers, shippers,
and passengers frequently face a web of restrictive government regulations which
stifle competition, discourage innovation, and foster inefficiency. In many respects,
the present air regulatory structure is outdated, inequitable, inefficient, uneco-
nomical and irrational. It often misplaces incentive and disincentive, distorts
competitive advantage, protects ineflScient carriers from effective competition,
over-restricts market entry, artifically inflates rates and misallocates our Na-
tion's resources. Under the current system, many consumers pay an artificially
inflated price for air transportation because ratesetting, unnecessary entry re-
strictions, capacity agreements and other forms of shelter from competition sanc-
tioned by the Board protect the least eflScient carriers, permit rates substantially
above an eflScient cost level and distort competitive market forces. The resulting
economic waste and associated inefficiency is substantial.
The present air regulatory system is the product of a different era. While the
needs and conditions on which air regulation was first predicated some 40 years
ago have changed, the goals and practices of government regulation have not. It
is unfortunately a truism that regulation begets further regulation and that regu-
lations outlive their rationale.
In 1938, when the Civil Aeronautics Act was passed, government assistance
through protection, subsidy, promotion and regulation was a necessary factor in
the development of a new and struggling industry. Thirty-seven years later, con-
ditions have changed. The air travel market is mature. Traffic has grown. Growth
has led to stability. The industry is vigorous. But the regulatory system which
protected it and made it that way has not kept pace.
The problems once faced have been largely solved. Now we are faced with prob-
lems that are a byproduct of that success. The promotion which once fostered
growth now causes inefficiency. The restriction which once guaranteed stability
now retard competition. The regulatory protection which once insured existence
now prevents savings.
We need a better system which comes closer to producing optimum social and
economic results, one which maximizes efficiency, economies and consumer op-
tions and which produces the best mix between low-cost and hisrh-quality service.
The most pressing problems in the airline regulatory field cluster in three broad
areas : ratemakins: and pricing flexibiUtv, market entry and exit, and anticom-
petitive agreements. Each area is in need of reform. Let me identify what we see
as the major difficulties involved, the actions DOT has taken, and the future
direction which the administration suggests.
20
A major difficulty with CAB policy has been ratemaking and the carrier in-
ability to raise and lower rates in response to the demands of the marketplace.
This in turn forces carriers into costly and uneconomic service competition, de-
prives the traveling public of the range of price/service options which would
otherwise be available, and results in substantial economic waste and inefBciency.
Section 404 of the Federal Aviation Act requires carriers to establish just
and reasonable rates. Section 1002 permits the Board to prescribe maximum or
minimum rates if it is of the opinion that the rates charged are unjust, unreason-
able, preferential or discriminatory. In deciding whether a rate is too high or
low the Board takes into account, among other factors, whether the fare is com-
pensatory, providing the carrier with sufficient revenue.
The result of the Board administration of these sections has been the elimina-
tion of price competition, thereby restricting competition to service. Passengers
find airlines competing for their patronage through elaborate cuisine, free drinks,
attractive stewardess, multicolored planes, and piano bars. But they do not have
a menu where different quality service is related to different prices. This is a
serious loss.
Many passengers would prefer the opportunity to select carriers based on price
in addition to type of service. Some passengers would prefer high load-factor,
low-frill, low-fare service. Others are willing to pay for more comfortable and
more costly service. Present procedures do not produce that variety of price/
service options. Often, present regulation causes fares well above those which
would result in a more competitive air transportation market. With prices fixed
at levels above market rates, carriers compete on the basis of service. Such serv-
ice competition produces substantial unused capacity and unnecessary low load-
factors, presently averaging about 57 percent. In the transcontinental market,
for example, rates are set sufficiently high to permit the carriers to earn a rea-
sonable return with load factors in the mid-40 percent range. DOT believes that
many transcontinental passengers would prefer the minor inconveniences asso-
ciated with higher load factors in return for less expensive tickets. In a more
competitive market, carriers would respond by providing such low cost service.
One recent study showed that at an average load factor of 7.5-percent prices
could be 27 percent lower than at a 50-percent load factor. While 75-percent load
factors are higher than DOT has recommended in most markets, this example
illustrates the potential savings associated with pricing flexibility.
Present Board policies encourage lower than optimal load factors. DOT's
testimony in the CAB's Domestic Passenger Fare Investigation (DPFI) showed
that when load factors increase beyond a break-even level (defined to include
profits), carriers schedule additional capacity, thereby lowering load factors to
the break-even level again.
Because of this inflexibility, in the Domestic Passenger Fare Investigation.
DOT, among other things, urged the Board to establish a 15-percent "zone of
reasonableness" above and below the fare structure curve. The zone would not
apply in monopoly markets, as defined by the CAB, where the Board would
continue to review and suspend rates. Within the zone, carriers would be per-
mitted to compete on the basis of price, free from regulatory interference. Out-
side the zone, the Board could continue to suspend rates it believed unlawful
under its ratemaking standards. The limits of the zone ensure that neither
dramatic price increases nor destructive price wars would ensue. The Depart-
ment position rested on the premise that greater reliance on market forces
would result in the establishment of rates based on costs and would afford the
public a wider and better range of price/service options. We emphasized that the
lack of price competition in the air industry was the primary cause of "seat
wars" and other service competition which resulted in undue unused capacity,
inflated cost levels, and too rapid obsolescence of equipment.
In its DPFI decisions, the Board did recognize that fares should be more
closely aligned to costs. It largely adopted our conclusion that low fares for
short-haul pnssengers should not be subsidized by higher fares for long-haul
passengers. The Board was unwilling at that time, however, to adopt the broader
principle of pricing flexibility, constrained only by costs.
Another procedural problem associated with nririnsr is CAB deiav in deciding
whether rates are reasonable. We believe the CAB should be required to render
a final decision on rate proposals promptly. Also, streamlined Procedures should
enable the Board to dispose of some cases on the basis of piead'n.n'c alone, with-
out formal hearings. Large scale investigations such as the DPFI may take
longer, of course.
21
The administration strongly supports greater pricing flexibility for the airline
industry. We expect that our legislation will incorporate proposals for pricing
tlexibility and expedited decisionmaking.
Another major problem with the present regulatory system is the Board's
restrictive entry and exit policies. These policies have also restricted competition
and increased costs to consumers.
Section 401 of the Federal Aviation Act gives the CAB control over entry into
the industry; the Board is given authority to determine which carriers may
operate in scheduled interstate service and on which routes they may operate.
The applicant must be found fit, willing, and able to perform the service properly,
and the transportation must be required by public convenience and necessity!
CAB permission is also required for exit.
In practice, industry entry has been tightly controlled. Other than the 16
carriers operating when the 1938 Act took effect, there has not been a single new
trunk carrier certificated in the Board's history. Through merger the 16 original
trunks have shrunk in number to 10 which account for 90 percent of the total
domestic market. The Board has, however, certified local service carriers, some
of which are now as large as the smaller trunks.
Until recently, and especially in the late sixties, existing carriers were granted
applications for new routes, thereby substantially reducing the number of mono-
poly markets. In the last few years, however, the CAB has put into effect a de
facto moratorium on route awards. New route applications have not been set for
hearing ; processing applications which had been set for hearing has been delayed.
The restrictive policy with respect to carrier entry has now been matched by a
restrictive policy with respect to route entry.
The economic result of a restrictive CAB policy is that carriers do not enter
and leave markets solely for business and profit reasons. New firms are dis-
couraged by the standards applied and by the results they see, including the high
cost of the application process and the delay in Board decisionmaking. The Board
has protected incumbent carriers rather than encouraged healthy competition.
As a result, in the majority of trunk markets, most passengers are carried by only
one or two airlines.
The administration does not necessarily believe that additional carriers are
required on every route to improve the working of the air transportation system.
We do believe, however, that the present system removes the ability of the car-
riers to adjust services and realine the markets they serve as economic conditions
warrant. This results in increased costs to the public.
The present system also does not recognize the importance of potential compe-
tition as an economic force. Thus, the carriers on an existing route need not be
concerned about new competition unless the Board has a route case pending. In
such circumstances, the existing carriers may be less diligent in providing the
type of service and price/quality options desired by the public than they would
be if they were aware that a competitor could enter at any time to provide new
or higher quality service.
Another way of improving competition is by liberalizing charter rules and
thereby offering the consumer a broader range of price and service options.
The administration believes a fundamental shift is required away from over-
protection of existing carriers to one which focuses on consumer needs and re-
quires that more weight be placed on competitive principles in evaluating new
applications for entry. We also believe that the CAB should not be permitted to
delay decisionmaking as a means of limiting entry.
Route exit has in some eases also been restrained by the CAB. While we recog-
nize the importance of service to communities of varying sizes, carriers should
not be forced to lose money or operate on the assumption that other routes subsi-
dize those producing inadequate revenue. Cross-subsidies are ineflBcient econom-
ically and in practice do not work.
W^here communities deem service essential, the carriers operate at a loss, and
the route does not justify federal subsidy, alternatives must be considered. These
alternatives include replacement services by another carrier or subsidies by the
community itself.
In this regard, I should note that we will not propose any immediate changes
in the local subsidy program. However, we believe the CAB has an obligation to
identify the cost of such subsidies by route and by city. This has not been done.
The administration strongly supports liberalization of entry into the air car-
rier industry and our forthcoming proposal will provide for substantial entry
and exit liberalization.
22
One of the most objectionable features of present CAB regulation is the ap-
proval of capacity reduction agreements in our domestic markets. At present,
under section 412 of the Federal Aviation Act, if the Board finds capacity, pooling
and other anticompetitive agreements not adverse to the public interest, it may
approve them ; in so doing, it immunizes them from action under the antitrust
statutes.
Capacity agreements were originally justified because of immediate, short-term,
severe financial distress. The Board has since permitted use of capacity agree-
ments to resolve problems of unused capacity, fuel allocation, and low profits in
certain markets. By apportioning capacity, such agreements effectively deter-
mine market share. As a result of Board actions, capacity limitation agreements
have proliferated to the point where about 29 percent of the revenue passenger
miles of the three largest carriers are now covered. One economic effect is that,
given the level of service provided, fares in covered markets are excessive. One
can scarcely imagine agreements more anticompetitive in their effect. Such prob-
lems are far better resolved through market forces operating in a competitive
environment.
DOT opposed the capacity agreements before the Board and has joined with
the Antitrust Division of the Justice Department to oppose approval of the agree-
ments before the District of Columbia Court of Appeals.
In contrast, some agreements arguably subject to challenge under antitrust
laws do serve valid transportation objectives. These include interline agreements,
airline scheduling committee agreements at congested airports, equipment leases,
fuel supply agreements, reservations and ticketing arrangements, and technical
agreements with foreign air carriers.
We distinguish between the two types of agreements, the one anticompetitive
in a way which contributes to economic inefficiency, the other which meets neces-
sary transportation objectives. The administration believes that anticompetive
agreements such as those for capacity limitation ."-hould be restricted or eliminated
but that agreements which serve efficient transportation needs should be
continued.
Section 408 of the Act authorizes the Board to approve mergers. Mergers may
be permitted unless the Board finds that they will be inconsistent with the public
interest, would create a monopoly and thereby restrain competition, or would
jeopardize another nonparty carrier. In our view, the standard used by the Board
in determining whether mergers or consolidations are approved should be changed
to require that competitive principles be weighed against transportation needs.
In DOT'S filings to date, we have encouraged the CAB to find less anticompeti-
tive solutions to many of the problems I have discussed. It is now clear that more
decisive reform is necessary. In times of inflation, recession and energy difficul-
ties, the Nation can ill afford the extravagances created by the present air regula-
tory system. The administration proposal will get to the heart of the difficulties
in each of the areas discussed by changing the regulatory structure which helped
produce them. The air regulatory reform bill which we will present will address
each of these issues in detail and will implement the basic policy objectives which
I have outlined in my testimony.
We look forward to working with the subcommittee to explore each of these
areas in more detail. We share the desire to modernize our regulatory structure
and let the fresh air of competition make our transportation industry operate
more efficiently at lower cost to the consumers we serve.
Senator Kkxxedy. Our second witness. Mr. Eiicrman. since February
1973. has served as chairman of the Federal Trade Commission. ITe
has directed particular attention to the asrency's responsibilities in the
area of antitrust laAv enforcement. He is outspoken on recfulatory
reform, and we are anxious to have his views on CAB regulation.
STATEMENT OF LEWIS ENGMAN. CHAIRMAN,
FEDERAL TRADE COMMISSION
Thank you, Mr. Chairman.
Last year in November when I was asked to present the Federal
Trade Commission's vieAvs on governmental restraints in the market-
23
place, I expressed concern that, like so many fashionable topics, it
would be the subject of much discussion but little action. It is grati-
fying, therefore, to know that concern with this vital subject has con-
tinued into the Mth Congiess, and I commend this committee for its
role in continuing the inquiry.
At a time when rising prices threaten the welfare of every American,
it would be folly indexed, if we were to fail to address this one area
where such large efficiencies appear to be available to us without off-
setting economic costs.
I am, therefore, pleased to be here, Mr. Chairman, and to have this
opportunity to offer my views on Federal regulations affecting the
airline industry.
Senator Kennedy. You have an extensive statement here, and I want
you to proceed in whatever way you feel comfortable, but if you want
to highlight it or summarize it, t think, that will be helpful.
Mr. Engman. I normally do that, Mr. Chairman, and I think this
Avill not take long.
Lest someone else feel compelled to say it for me, I must state at
the outset that I am no expert on the technical aspects of the airline
industry. I suggest, however, that one need be no expert to perceive
that something is amiss with the Avay the Government currently con-
strues its responsibility toward the American consumer of air
transportation.
As spokesman for an agency broadly charged with insuring that the
consumer receives the best that the marketplace can provide for him,
I find this situation disturbing.
The Fedeial Trade Commission is committed to the principle that
people are best served by the effective operation of a free and com-
petitive open market.
Today, those conditions are conspicuously absent in our airline
industry. They are absent because, over 35 years ago, the Congress,
after examining the needs of a then infant industry struggling to raise
capital, decided that the public welfare demanded an exception to the
principle of competition — demanded that the airline industry be given
partial immunity from the antitrust laws and from the rigors of price
competition. The arguments mustered in support of that decision were
essentially two : That it was necessary to insure the industry against
cutthroat competition, and that it was necessary to provide service
to localities which would not otherwise receive it.
I was not around at that time. I did not hear the arguments made for
and against what was done. But \yhatever arguments were made at
that time and whatever industry conditions they reflected as you indi-
cated, should be of little consequence to us today. For the relevant
question now is, where has it all brought us ?
There can be little doubt that much of what was intended has been
achieved. Wliether it is because of, or in spite of, regulation, I do not
know, but today we have beyond question the most comprehensive air
transportation network in the world. Moreover, despite the current
depleted condition of several of our major carriers, the industry over
the years has been characterized by extraordinary stability.
SERVICE COMPETITION AND EXCESS FLIGHTS
But these objectives have been achieved at a very high cost. Our
system, which severely inhibits price competition and restricts entry,
24
has led to a fare structure on many routes which economists a^ree is
far hig;her than that which would prevail if the industry were charac-
terized by price competition and free entry. Several conditions flow
from this fact.
The absence of any real price competition coupled with higher than
competitive rates leads to large amounts of nonprice competition. One
important type of nonprice competition is in terms of frequency of
flights. This in turn leads to large amounts of excess capacity. It is
not unusual today for several planes to fly almost identical schedules
each with a small fraction of its seats filled on some flights.
Senator Kennedy. That makes two of us. I have done a lot of flying.
I just found that out last Thursday evening when I was flying to
San Francisco. There were two major flights within 5 minutes of each
other, both going nonstop to San Francisco from Dulles Airport.
Noticing that we had these particular hearings, I looked at both of
them, and the first class in both were full and the rest about one-third
full, and they landed within 5 minutes of each other. I have a staff
assistant who is consultant for our Health Committee, who makes the
trip once a month, and he has been doing a little informal review of this
as well, and has found the exact same thing. He finds it going both
ways. The point is well made.
Mr. Engman. I have noticed the same situation. It is also true with
other pairs of markets ; Chicago, for instance.
In short, what we have is economic waste — the classic cost-plus syn-
drome. The air passenger who finds himself next to an empty seat may
be pleased with this state of affairs. He is able to spread out a little.
But I wonder how pleased he would be if he were aware that he had
paid not only for the seat he was sitting in, but for the seat his briefcase
was sitting in, too.
In addition, fixed rates have created a sort of phony war, a war in
which airlines compete for business, not on the basis of price, but on
the basis of scheduling and comfort. All of us today have standing
invitation to fly Cheryl or Karen or Trixie or even Bruce. Those invita-
tions are no more or less than confessions on the part of the airlines
that our decision as to Avhich to fly ]:)retty much boils down to whether
Cheryl is more attractive than Bruce.
This bogus competition along with creature comforts and the pres-
sure to raise the number of flights can be explained by the simple eco-
nomics of the airline industry. We start with an increase in fares. In
the absence of price competition, each airline tends to compete away
the "profits" from the fare increase by engaging in various forms of
increased nonprice competition.
More frills are added. Witness the great free-drink battles of recent
times or the lounge wars of some time back. Often flight frequencies
are also incrensed. Unfortunately, this tends to reduce overall load fac-
tors on all the planes. Rates of return go down, and soon we are told a
new fare increase is "required" to maintain the existing rates of return.
The whole nonj^roductive cycle starts all over again.
ANALOGY TO SECURITIES INDUSTRY
The situation is analogous to that which existed in the securities in-
dustry a few years ago when it was operating on fixed rates across the
board. Since brokerage houses could not offer the customer lower rates.
^25
they offered frills — counseling services and the like. The brokerage
houses argued that these frills were Avorth the extra money, but the
institutional investors knew better, and they made the brokers give
them the equivalent of rebates under the table. The American consumer
of air transportation does not have that power. I wonder how he would
act if he did.
Comfort and scheduling are undoubtedly worth something to con-
sumers. But are they worth the price he must pay for them? Obviously,
they are worth nothing to those who cannot afford to fly because of the
high prices. There is evidence which suggests also that they are not
worth it even to those who can and do fl}'. If it were true, given the
choice, some people would choose to pay the higher rates for deluxe
or frequent service, why does the industry and the Government shy
away from giving them that choice? For surely that has been the pat-
tern in recent years.
RESTRICTIOXS OX CHARTERS
Our current system of regulation has prevented the entry of new
carriers walling to fly for less. And it has frustrated charter operations
willing to lay on "barebone" service at a fraction of the going rates.
It is argued that these limitations are necessary to prevent so-
called undue diversion from the scheduled carriers. We can recognize
that argument for what it is. "Diversion" would not occur if people
thought frequent flights and frills were worth the price.
Do not misunderstand me. I have nothing against Cadillacs. But
I question the equity of a system that forbids the sale of Pintos. And
I also wonder about a system which permits producers of a "big
ticket" item like air transportation to avoid the issue of price except
when it is to tell the consumer that a special rate awaits him if he is
leaving on a Wednesday morning, i)lans to remain at his destination
for precisely 53 days, is carr\'ing no luggage, and is a charter member
of the Flat Earth Society.
COST OF REGULATION
It may be impossible to get a precise measure of how much our system
of regulation actually costs the airline customer and the American
public. But we can get a rough idea from examining prices in those few
markets where regulated carriers face competition from intrastate
carriers not subject to Federal regulation. Tavo such markets currently
exist in California and Texas, as the acting Secretary indicated, and
you have doubtless already heard and read much about them. Suffice it
to say that the unregulated intrastate carrier entered the market with
substantially lower fares in each instance. In the case of Texas, the
price differential remains today with the result that consumers are
offered a lower cost alternative — offered it, I might add, by a financi-
ally successful airline. Southwest Airlines. In the case of "California,
the low-cost competition offered by Pacific Southwest Airlines forced
the interstate carriers to appeal for and finally to get from the Govern-
ment permission to lower their rates to the level of the competition.
But you need only step across the State line to appreciate the local
character of this consumer benefit. It still costs much more to fly the
226 miles from Los Angeles to Las Vegas than it does to fly the 347
miles from Los Angeles to San Francisco.
26
The cost to the consumer of continued regulation is suggested also
by a 1972 economic study in which the costs of airline operations were
compared with fares for flights between 30 different pairs of cities.
These comparisons showed that, in markets where there was no com-
petition from an unregulated carrier, fares exceeded costs, costs being
defined to include a 7.5 percent return on investment, from 47 percent
to 8-4 percent. Since, with competition, fares could be expected roughly
to parallel costs, this wide variation would seem to suggest that
the experiences in Texas and California do not reflect unique
circumstances.
These then are at least some of the costs that have been imposed on
the public in stressing stability and comprehensive service. Whether
one has been worth the other is a policy question which Congress
should consider.
But any weighing of costs and benefits surely should be preceded by
a close examination of their relationship. For it can be argued that
many of the costs incurred were not necessary to the attainment of the
benefits intended.
SMALL TOW^N SERVICE (CROSS-SUBSIDY)
Consider first the benefit of comprehensive service — that is, service
to parts of the country where traffic is too light to support a scheduled
airline. It is often argued that high fares on heavily traveled routes
are needed to subsidize losses on sparser runs which the regulated
carriers are required to fly. I frankly have to tell you I do not know
how much of this "cross-subsidization'' actually occurs, but assuming
that there is some, it has the effect of putting tlie entire industry on a
de facto cost-plus system of return, a system which experience has in-
dicated is a very poor check on inefficiency. Also, requiring one air
passenger to subsidize the flight of another raises a serious question of
equity. If it is a desirable thing to have air service between two small
towns, why should only one class of citizens be asked to bear the cost
of it?
Finallv. the svstem raises the question of resource allorntion. for
there can be no question that a subsidy paid from high fares on heavily
traveled routes causes misallocation of resources.
Higher fares on denser routes inhibit travel on those routes. The
"right" amount of air travel on those routes would be the amount
which people would buy at a price which just covered all costs of pro-
viding the service. Higher prices will cause them to buy less than that
amount. And the resulting loss to society is the same as it would be
had the higher price been the result of private price fixing or
monopoly.
I express no view on the question of whether some flights should be
directly subsidized. I suggest simply that if we are to have a system
under which some people subsidize service to others, we should, at the
very least, be able to identify its costs so that we can intelligently
examine alternate forms of subsidy and so that we can periodically
reassure ourselves that the benefits are worth the costs.
DESTRUCTIVE COMPETITION
The other pillar— in addition to comprehensive service — on which
our current regulatory system stands is the need to prevent "cut-
27
throat'" competition which could threaten the industry's stability and
perhaps result in a single-firm monopoly.
This has not happened in California, and I see no reason to expect
that it would be a general problem.
The number of firms present in any industry depends largely on
whether there are large economies of scale relative to market demand.
If there are, there will be only a few firms in the industry. In the
most extreme cases, there may be only one.
But the airline industry does not have large economies of scale.
The basic unit of production is the airplane itself. Economic studies
indicate that an efficient airline can be run with only a few of them.
They can be — and are — easily shifted from one route or one carrier to
another.
Single firm service may emerge on some lightly traveled routes be-
cause of the small size of the market. But it is doubtful that such firms
could charge monopoly prices because of the constant threat of entry
by other firms, if it were permitted. The ability to shift planes easily
from one market to another makes the threat of entry quite credible
in this industr^\
Much of what I have just said you have doubtless heard from
others. The question is, "what do we do about it ?"
CAB asks airlines for data on their liquor costs. I know what they
are doing.
That is one of the purposes of these hearings, and because the
answer to the question of what we can do about it is really not all that
clear, perhaps, but there are two points, Mr. Chairman, which are
quite clear to me.
First, I believe that no one is going to be able to provide a complete
answer until we have a better accounting of the costs and benefits of
the current system. At present, neither the Federal Trade Commis-
sion, nor the Congress nor the American public has any idea of what
the current system of regulation costs or what it produces. My interest
in this question as a Federal official is not as important as my interest
as an air traveler — incidentally, with three young sons — and as a tax-
payer since I, along with millions and millions of other Americans,
am paying the bills.
COST OF REGULATIOX
Senator Kennedy. You cannot really tell how much they would
save the consumer ?
INIr. ExGMAX. The precise number is one which is beyond our ability
to knoAv. As you. ]Mr. Chairman, cited a study which I have cited iii
the past, the question of $17-$18 billion range, that has been cited
across the board, that of course includes surface transportation, too,
studies indicating the range from 48-84 percent overcharging on the
30 selected flights indicated there, and certainly we are talking about
hundreds of thousands and probably millions of dollars each year.
I think in terms of specifics as to some of these cost questions, such
as to whether or not how much do we really know, how much cross
subsidies do we really have going on, or is this a kind of issue that
has just been raised to tend to confuse the issue would be helpful, and
we have to work to continue to improve the information we have
available to us.
28
Senator Kennedy. Do you have the ability or does the Federal
Trade Commission have that kind of ability, to develop figures on
this?
Mr. Engman. We have a large staff of economists, Mr. Chairman,
who are kept busy by a number of investigations and studies which
the Congress asks us to undertake, primarily in the antitrust enforce-
ment area. We do not have immediate access to some of the data that
the Civil Aeronautics Board does. But to the extent Congress, in terms
of providing us with resources and money, are interested in us pro-
ceeding with the further investigation so some of these economic ele-
ments, speaking for myself, and I am sure on behalf of the Commis-
sion, would be more than happy to comply.
That is the first point and the data point.
Second, in terms of what I am clear about in answering this ques-
tion of what we should do. my experience has led me to conclude that
the free enterprise system is the best regulator of all. I can see nothing
about the airline industry which would suggest to me that in 1975,
Government regulation of the airline industry is providing the con-
sumer with more for his money than the free market would provide.
Therefore, I suggest you listen to proponents of regulation with an
open mind, as I have done. But I submit, giveii the conditions that
exist today in the industry and in regulated industries in general,
that the competitive market should be made the point of departure
for the debate and that the burden of proof should rest with those
who argue against competition rather than those who would return
to it. The burden should also be on those who, in the name of reform,
stop short of this goal.
There will be doomsayers who will forecast the direct consequences
of deregulating rates and entry. Typically, they will be based on the
reductio ad absurbum case in which at 12 :47 on a Wednesday after-
noon, we shift from total regulation to open competition. It need not
occur that way. If the Congress were to determine that a move in the
direction of the free market were warranted, it could easily enough be
accomplished in stages. There is ample precedent. Several years ago
the SEC was looking at an analogous situation in the securities in-
dustry. Brokers then operating on a fixed rate basis argued bitterly
that negotiated rates would be a disaster. The SEC rejected that argu-
ment and decided to move ahead, not all at once, but on a staged basis.
Beginning with purchases of over $500,000, rates were left to the
forces of the market.
SAFETY AND COMPETITION
Senator Kennedy. But you did not really have the issue of life,
sustaining your industry. If you made a mistake in tliat, it was just a
matter of brokers' fee. Here in terms of safety it is people's lives.
Mr. Engman. We are not talking about safety. I am talking about
the Civil Aeronautics Board. The requirements for safety are handled
by the Federal Aviation Administration. If I agree with what I have
read in the papers, perhaps there ought to be some tightening up of
regulation over there, wliich is under the jurisdiction of the Depart-
ment of Transportation. But that kind of safety regulation which we
are all in favor of, the traveling public, does not come under the
jurisdiction of the Civil Aeronautics Board.
29
THE POSSIBILITY OF CHAOS
Senator Kennedy. With the newer, costly equipment and the addi-
tional energy costs, in considering open entry and competition in fares,
are we not talking about a situation which is inviting chaos?
Mr. Engman. i am not at all sure that would be the situation, Mr.
Chairman. We do not really know what would happen, perhaps.
I suggest part of the problem in the existing market is that some
carriers — for example, Pan Am is not permitted to compete in some
of the more lucrative routes. I was happy to see that the Department
of Justice recently suggested to CAB that that might be one of the
answers to Pan Am's problem.
But as my earlier testimony suggested, the present system, which
prohibits price competition, in fact encourages the type of situation
to exist with overcapacity, and that leads to costs higher than they
otherwise would be, and bad profit.
Obviously there may be some differences, but even in the securities
industry back a few years ago, we had a bear market, falling volume
on the stock exchange, but there were really no disasters that came
about as a result of the abolition of the fixed-rate fee system. It was
done in a series of stages until finally the system was abolished alto-
gether. It is not a pure analog}', but it seems to me a similar approach
might be taken toward the airlines.
I suggest a scheduled return to the free market over 2 years or 4
years or whatever period Congress deems appropriate. This would
put the fundamental arguments in support of regulation on trial.
And it could be done in a manner that would allow the decision as to
how far to go to be based on fact and proven results rather than on
theory.
My own guess is that we would make it all the way back to "regula-
tion" by the free market and that we would be better off for it.
Thank you very much, Mr. Chairman, I will be more than happy to
attempt to respond to any questions that you might have.
Senator Kennedy. Thank you very much.
I value very highly your testimony and your comments.
We in the Congress have been very impressed with the efforts that
you have made in the Federal Trade Commission in attempting to
bring about a variety of reforms. I think you are aware that a few
years ago wo had some hearings on various procedures and practices
within the Federal Trade Commission and made a number of recom-
mendations. I must say that I have been enormously impressed with
what has been achieved under your- leadership in the Commission.
jNIr. Engman. Thank you.
Senator Kennedy. I think that has been of great value to the
American public.
NEED FOR LEGISLATION
I am wondering whether you think a number of these points that
you have raised here can be done, a number of these reforms can be
achieved without additional legislation. You have seen very sub-
stantial reform within your own agencies without corresponding
legislation, I believe, and I am just wondering whether you feel these
other points that you have raised here this morning can" be done like-
wise without legislation ?
30
Mr. Engman. It is a good point, Mr. Chairman.
Let me say first of all that I think honesty would compel me to say
that although a great deal of the impetus at the Federal Trade Com-
mission could come from the Commission, I think a number of things
we have been able to accomplish, in my view the past few years, have
been the result of the cooperation and assistance of the Congress, not
only in terms of holding hearings on certain questions, and particu-
larly recently again in terms of assisting us with some kind of addi-
tional legislative authority. But I do appreciate your remarks.
I think, as Secretary Barnum indicated, there is quite a bit that
could be done under the existing legislation. Certainly a different
approach, a more liberalized approach could be taken by the Board
with respect to limitations on entry. I certainly feel that under section
1002 of their act they have the ability to not suspend proposed fare
decreases by various airlines, and that would be a step in the right
direction, they could encourage price competition, price quality
option, and although I am not an aviation regulatory expect, I believe
that thev could give serious consideration on their own to adopting
the kind of proposal which Mr. Barnum outlined this morning with
respect to establishing a zone of reasonableness Avith respect to pricing.
I do suggest there are some inbred difficulties within any institution
after a period of time, and because of the value of precedent and
because the agency was initially established in effect to promote— and
it still views as one of its functions— the airline industry in the Ignited
States.
With that kind of objective and that kind of of gloss written over
their responsibilities, let me say, I am not optimistic that substantial
changes will be made or sufficient changes will be made by the Board.
APPOINTMENT OF CAB MEMBERS
Senator Kennedy. Do you think some of the problem is the appoint-
ment process ? We talked a little bit about that earlier.
Mr. Engman. I heard the discussion on that.
Senator Kennedy. How would you change that ?
Mr. Engman. Let me first confess that my focus on it with respect
to this system of regulation basically has been an institutional one and
I have not given a great deal of thought to the earlier questions, and 1
cannot really speak from firsthand knowledge as to Avhat that process
has been with respect to that agency.
I know as far as my own process went that the Commerce Committee
I thought did a good, extensive, thorough job of analysing qualifica-
tions in the examinations I have seen them undertake, and I think it is
the responsibility of Congress to do that. Whether or not that has been
done sufficiently with respect to some of the areas, I frankly do not
know. But I think there is a role for improvement of the process. I
happen to believe there is nothing we have around that is so sacred
(hat we cannot improve it unless it is something like the first amend-
ment. As a result of that, I think, there may be an admirable approach
there.
Senator Kennedy. Fine. Very helpful. We want to thank you very
much for your presentation.
Mr. Engman. Thank you very much, Mr. Chairman, for the oppor-
tunity to be here.
31
Prepared Statement of Lewis A. Engman
Last year when I was asked to present the Federal Trade Commission's views
on governmental restraints in the marketplace, I expressed concern that, like so
many voguish topics, it would be the subject of much discussion but little action.
It is gratifying, therefore, to know that concern with this vital subject has con-
tinued into the 94th Congress, and I commend this subcommittee for its role in
continuing the inquiry.
At a time when rising prices threaten the welfare of every American, it would
be folly indeed if we were to fail to address this one area where such large
efficiencies appear to be available to us without offsetting economic costs.
I am, therefore, pleased to be here, Mr. Chairman, and to have this oppor-
tunity to offer my views on Federal regulations affecting the airline industry.
Lest someone else feel compelled to say it for me, I must state at the outset
that I am no expert on the technical aspects of the airline industry. I suggest,
however, that one need be no expert to perceive that something is amiss with the
way the Government currently construes its responsibility toward the American
consumer of air transportation.
As spokesman for an agency broadly charged with ensuring that the consumer
receives the best that the marketplace can provide for him, I find this situation
disturbing.
The Federal Trade Commission is committed to the principle that people are
best served by the effective operation of a free and competitive open market.
Today, those conditions are conspicuously absent in our airline industry. They
are absent because, over 35 years ago, the Congress, after examining the needs
of a then infant industry struggling to raise capital, decided that the public wel-
fare demanded an exception to the principle of competition — demanded that the
airline industry be given partial immunity from the antitrust laws and from the
rigors of price competition. The arguments mustered in support of that decision
were essentially two : that it was necessary to ensure the industry against "cut-
throat" competition and that it was necessary to provide service to localities
which would not otherwise receive it.
I was not around at that time. I did not hear the arguments made for and
against what was done. But whatever arguments were made at that time and
whatever industry conditions they reflected should be of little consequence to us
today. For the relevant question now is where has it all brought us?
There can be little doubt that much of what was intended has been achieved.
Whether it is because of, or in spite of, regulation, I do not know, but today we
have beyond question the most comprehensive air transportation network in the
world. Moreover, despite the current depleted condition of several of our major
carriers, the industry over the years has been characterized by extraordinary
stability.
But these objectives have been achieved at a very high cost. Our system, which
severely inhibits price competition and restricts entry, has led to a fare structure
on many routes which economists agree is far higher than that which would
prevail if the industry were characterized by price competition and free entry.
Several conditions flow from this fact.
The absence of any real price competition coupled with higher than competitive
rates leads to large amounts of nonprice competition. One important type of
nonprice competition is in terms of frequency of flights. This in turn leads to
large amounts of excess capacity. It is UQt unusual today for several planes to fly
almost identical schedules each with a small fraction of its seats filled on some
flights. In short, there is economic waste — the classic cost-plus syndrome. The
air passenger who finds himself next to an empty seat may be pleased with
this state of affairs. He is able to spread out a little. But I wonder how pleased
he would be if he were f^ware that he had paid not only for the seat he was
sitting in, but for the seat his briefcase was sitting in, too.
In addition, fixed rates have created a sort of phony war, a war in which
airlines compete for business, not on the basis of price, but on the basis of
scheduling and comfort. All of us today have standing invitations to fly Cheryl
or Karen or Trixie or even Bruce. Those invitations are no more or less than con-
fessions on the part of the airlines that our decision as to which to fly pretty
much boils down to whether Cheryl is more attractive than Bruce.
This bogus competition along with creature comforts and the pressure to up
the number of flights can be explained by the simply economics of the airline
industry. We start with an increase in fares. In the absence of price competition
each airline tends to compete away the "profits" from the fare increase by
engaging in various forms of increased nonprice competition.
32
More frills are added. Witness the great free drink battles of recent times
or the lounge wars of some time back. Often flight frequencies are also in-
creased. Unfortunately, this tends to reduce overall load factors on all the
planes. Rates of return go down, and soon a new fare increase is "required" to
maintain the existing rates of return. The whole non-productive cycle starts
all over again.
The situation is analogous to that which existed in the securities industry
a few years ago when it was operating on fixed rates across the board. Since
brokerage houses could not offer the customer lower rates, they offered frills,
counseling services and the like. The brokerage houses argued that these frills
were worth the extra money, but the institutional investors knew better and
they made the brokers give them the equivalent of rebates under the table. The
American consumer of air transportation doesn't have that power. I wonder how
he would act if he did.
Comfort and scheduling are undoubtedly worth something to consumers. But
are they worth the price he must pay for them? Obviously, they are worth
nothing to those who cannot afford to fly because of the high prices. There is
evidence which suggests also that they are not worth it even to those who can
and do fly. If, given the choice, some people would choose to pay the higher rates
for deluxe or frequent service, why does the industry and the Government shy
away from giving them that choice? For surely that has been the pattern in
recent years.
Our current system of regulation has prevented the entry of new carriers
willing to fly for less. And it has frustrated operations willing to lay on "bare-
bones" service at a fraction of the going rates.
It is argued that these limitations are necessary to prevent "undue diversion"
from the scheduled carriers. We can recognize that argument for what it is.
"Diversion" would not occur if people thought frequent flights and frills were
worth the price.
Do not misunderstand me. I have nothing against Cadillacs. But I question the
equity of a system that forbids the sale of Pintos. And I wonder about a system
which permits producers of a "big ticket" item like air transportation to avoid
the issue of price except when it is to tell consumer that a si>ecial rate awaits
him if he is leaving on Wednesday morning, plans to remain at his destination
for precisely 53 days, is carrying no luggage and is a charter member of the Flat
Earth Society.
It may be impossible to get a precise measure of how much our system of
regulation actually costs the airline customer and the American public. But we
get a rough idea examining prices in those few markets where regulated carriers
face competition from intrastate carrers not subject to Federal regulation. Two
such markets currently exist in California and Texas, and you have doubtless
already heard and read much about them. SuflBce it to say that the unregulated
intrastate carrier entered the market with substantially lower fares in each
instance. In the ca.se of Texas, the price differential remains today with the result
that consumers are offered a lower cost alternative — offered it, I might add, by a
financially successful airline, Southwest Airlines. In the case of California, the
low cost competition offered by Pacific Southwest Airlines forced the interstate
carriers to appeal for and to get from the government permission to lower their
rates to the level of the competition. But you need only step across the state line
to appreciate the local character of this consumer benefit. It still costs much
more to fly the 226 miles from Los Angeles to Las Vegas than it does to fly the
347 miles from Los Angeles to San Francisco.
The cost of the consumer of continued regulation is suggested also by a 1972
economic study in which the costs of airline operations were compared with
fares for flights between 30 different pairs of cities. These comparisons showed
that, in markets where there was no competition from an unregulated carrier,
fares exceeded costs, including a 7% percent return on investment, by from 47
percent to 84 percent. Since, with competition, fares could be expected roughly to
parallel costs, this wide variation would seem to suggest that the experiences in
Texas and California do not reflect unique circumstances.
These then are at least some of the costs that have been imposed on the public
in stressing stability and comprehensive service. Whether one has been worth
the other is a policy question which Congress should consider.
But any weighing of costs and benefits surely should be preceded by a close
examination of their relationship. For it can be arsrued that many of the costs
incurred were not necessary to the attainment of the benefits intended.
Consider first the benefit of comprehensive service, that is, service to parts
of the country where traffic is too light to support a scheduled airline. It is often
argued that high fares on heavily travelled routes are needed to subsidize losses
on sparser runs which the regulated carriers are required to fly. I do not know
how much of this "cross-subsidization" actually occurs, but assuming that there is
some, it has the effect of putting the entire industry on a de facto cost-plus system
of return, a system which experience has indicated is a very poor check on
inefficiency. Also, requiring one air passenger to subsidize the flight of another
raises a serious question of equity. If it is a desirable thing to have air service
between two small towns, why should only one class of citizens be asked to bear
the cost of it?
Finally, the system raises the question of resource allocation, for there can
be no question that a subsidy paid from high fares on heavily travelled routes
causes misallocation of resources.
Higher fares on denser routes inhibit travel on those routes. The "right" amount
of air travel on these routes would be the amount which i>eople would buy at a
price which just covered all costs of providing the service. Higher prices will
cause them to buy less than that amount. And the resulting loss to society is the
same as it would be had the higher price been the result of private price fixing or
monopoly.
I express no view on the question of whether some flights should be directly
subsidized. I .suggest simply that if we are to have a system under which some
people subsidize service to others, we should, at the very least, be able to identify
its costs so that we can intelligently examine alternate forms of subsidy and so
that we can periodically reassure ourselves that the benefits are worth the costs.
The otlier pillar — in addition to comprehensive service — on which our current
regulatory system stands is the need to prevent "cutthroat" competition which
could threaten the industry's stability and perhaps result in a single-firm
monopoly.
This has not happened in California, and I see no reason to expect that it w^ould
be a general problem.
The number of firms present in any industry depends largely on whether there
are large economies of scale relative to market demand. If there are, there will be
only a few firms in the industry. In the most extreme cases, there may be only one.
But the airline industry does not have large economies of scale. The basic
unit of production is the airplane itself. Economic studies indicate that an efficient
airline can be run with only a few of them. They can be — and are — easily
shifted from one route or carrier to another.
Single firm service may emerge on some lightly travelled routes because of
the small size of the market. But it is doubtful that such firms could charge
monopoly prices because of the constant threat of entry by other firms. The ability
to shift planes easily from one market to another makes the threat of entry quite
credible in this industry. Much of what I have said you have doubtless heard from
others. The question is "what do we do about it?" This is obviously a complex
area, and the precise answer to that question is not clear. However, two points
are quite clear to me.
First, I believe that no one is going to be able to provide a complete answer
until we have a better accounting of the costs and benefits of the current system.
At present, neither the Federal Trade Commission, nor the Congress nor the
American public has any idea of what the current system of regulation costs or
what it produces. My interest in this question as a Federal official is not as im-
portant as my interest as an air traveller and a taxpayer since I, along with
millions and millions of other Americans, am paying the bills. Congress' need to
know is greatest of all. For without the facts on the table, you will have no
frame of reference against which to compare alternate approaches.
Second, my experience has led me to conclude that the free enterprise system
is the best regulator of all. I can see nothing about the airline industry which
would suggest to me that in 1975, Government regulation of the airline industry
is providing the consumer with more for his money than the free market would
provide. Therefore, I suggest you listen to proponents of regulation with an open
mind, as I have done. But I submit, given the conditions that exist today in the
industry and in regulated industries in general, that the competitive market
should be made the point of departure for the debate and that the burden of
proof should rest with those who argue against competition rather than with
those who would return to it. The burden should also be on those who, in the
name of reform, stop short of this goal.
51-14G O - 76 - pt. :
34
There will be doomsayers who will forecast the direct consequences of de-
regulating rates and entry. Typically they will be based on the reductio ad
absurdum case in which at 12 :47 on a Wednesday afternoon we shift from total
regulation to open competition. It needn't occur that way. If the Congress were
to determine that a move in the direction of the free market were warranted,
it could easily enough be accomplished in stages. There is ample precedent.
Several years ago the SEC was looking at an analogous situation in the securi-
ties industry. Brokers then operating on a fixed rate basis argued bitterly that
negotiated rates would be a disaster. The SEC rejected that argument and de-
cided to move ahead, not all at once, but on a staged basis. Beginning with pur-
chases of over $500,000, rates were left to the forces of the market. Though this
occurred against the background of a bear market and falling volume, there were
no disasters. So the cutoff level for negotiated rates was lowered, not just once
but again and again at i>eriodic intervals until the fixed rate system was abolished
altogether.
It may not be a perfect analogy, but it seems to me that a similar approach
could be taken toward the airlines. I suggest a scheduled return to the free
market over 2 years or 4 years or whatever period Congress deems appropriate.
This would put the fundamental arguments in support of regulation on trial.
And it could be done in a manner that would allow the decision as to how far to
go to be based on fact and proven results rather than on theory.
My own guess is that we would make it all the way back to "regulation" by
the free market and that we would all be better off for it.
Senator Kennedy. Our next witness is the Assistant Attorney Gen-
eral for the Antitrust Division, the Department of Justice, Mr. Kauper.
He formerly served in the Office of Legal Counsel. He was a law pro-
fessor at the University of Michigan. We welcome him here this
morning.
A great deal of attention has been f ocussed on the Antitrust Division.
I am sure you know how important your own work is. I want you to
know that we in the Congress think so, too.
You have very extensive testimony here. I am just wondering how
you want to proceed. I want to give you a fair chance to present it.
STATEMENT OF THOMAS E. KAUPER, ASSISTANT ATTORNEY
GENERAL, ANTITRUST DIVISION, DEPARTMENT OF JUSTICE, AC-
COMPANIED BY DONALD BAKER AND KEITH CLEARWATERS,
DEPUTY ASSISTANT ATTORNEYS GENERAL
Mr. Kauper. Mr. Chairman, at your staff's request I have been
sitting out there marking out portions of it.
So, I think, what I will try to do is to go through it, but omitting
very substantial parts.
Senator Kennedy. We will obviously include it in the record.
Mr. Kauper. I am accompanied by Deputy Assistant Attorney Gen-
eral Donald Baker on my right, and on my left Deputy Assistant Attor-
ney General Keith Clear waters, wlio will be taking part in these
hearings.
Mr. Chairman, I am happy to be here today to present the views of
the Department of Justice and to report on the work that the adminis-
tration is doing on economic regulation of domestic air transportation.
Airline costs affect us all as citizens, taxpayers, and consumers. They
affect us when we buy products, when we carry out our jobs, and when
we travel for pleasure. Airline costs are in turn directly affected by
airline regulation — for it is regulation which tells carriers on which
routes they can compete and what means of competition they can use.
Basically," it keeps entry tight, while allowing carriers to compete in
terms of service but not price. The result is, as you would expect, a sys-
36
Icm which sets both price and service at levels above what they would
be in a competitive market — in other Avords, there are more planes, with
more empty seats, and the customer pays more tlian he would under a
regime oi open competition.
For years nobody much worried about CAB price and enti-y policies,
because we were in a continuing trend of improving equipment, de-
clining cost, declining prices, and rapidly growing traffic. The airline
traveler's Avorld was getting better, even tliough CAB rate and entry
regulation was probably slowing down at least the rate at which fares
declined, and encouraging excess capacity.
Now, ho\\'ever, the situation has changed. Due to sharply higher fuel
and labor costs, airlines have been requesting, and the Board has ap-
proved, a A\hole sei-ies of fare increases, which have come at a time
when the public at large was, if anything, less able to pay these fai^es.
At the same time, the Board has actively sought to cut back on low-
price air travel, through limitations on promotional fares and restric-
tions on charter activity. The result of all this has been to raise fares
considerably for everyone and to raise them enormously for certain
classes of users. The overall effect has been to produce an almost un-
precedented substantial reduction in air travel — more empty seats on
scheduled flights and fewer charter flights. The i-eduction in demand
has tended to push up the airlines' miit costs, since they have had to
spread out their fixed costs over fewer passengers. This in turn hag
provided the impetus for renewed fare increases, a situation likely
to further reduce air travel and hence again increase unit costs. The
resulting spiral of increasing fares and costs means that the smaller
proportion of the public which can afford to fly gets reduced service
at increased prices.
REGULATION OF FARES AND ROUTE ENTRY
We in the administration have been studying for some time how to
break out of this upward spiral of prices and costs. We have concluded
that the most hopeful avenue is a substantial relaxation of existing
price and entry regulation, which forces cairiers to offer excessive
amounts of unused seats at excessively high fares. That system of
regulation has in addition prevented innovative newcomers from
coming into the business of interstate air transportation, in the interest
of protecting the established carriers against new competition. We be-
lieve that more open competitive pricing, if given a chance, would
broaden the carriers' entrepreneurial opportunities by giving them a
chance to compete with lower fare? as well as Avith extra seats. We be-
lieve that it would tend to bring interstate air transportation more into
line with what we saw in California and Texas. An environment of
lower fares and fuller planes. If this occurs— and both actual experi-
ence and economic theory suggest that it Avill — we have found a basis
for breaking the cycle of rising costs and declining service. Lower
prices are likely to come quite quickly and lower prices are likely to
encourage new traffic quite quickly. By the same token, liberalized
entry rules^an environment with less emphasis on route protection —
are likely to get onto the routes those carriers who are most efficient at
serving them. In a competitive environment, such efficiencies can in
turn be passed on to the traveler in the form of lower fares.
36
The Department's perspective on airline regulatory problems is
based of course on our experience in enforcing the antitrust laws in a
great variety of industries having a diversity of cost and capital char-
acteristics, it is based on our extensive participation before the CAB
in a variety of proceedings. And it is based on our experience in anti-
trust enforcement in other regulated industries, some of which have
economic characteristics similar to those of air transportation. Our
experience tells us that regulated firms rarely welcome freer entry rules
and more flexible pricing. They generally want to be protected from
outsiders and protected from each other by a benevolent regulator. In
the airline field, regulated firms generally have opposed pricing flexi-
bility and offered capacity cartel agreements instead. Yet our experi-
ence also tells us that in fact competition works in regulated environ-
ments much more efficiently than the regulated firms generally be-
lieve; and we find increasing use of competition in place of direct
regulation as a tool to promote efficiency in a number of regulated en-
vironments—ranging from wholesale electric power to securities
markets.
The Department is currently Avorking with the Department of
Transportation, the Council of Economic Advisers, the Council on
Wage and Price Stability and the Office of ^lanagement and Budget to
develop detailed administration proposals which respond to this reality
in the transportation sector. We hope to have detailed proposals for
air transport regulation reform for presentation to the Congress in
the near future. At this point, these agencies have arrived at a broad
consensus in principle, which we will discuss today.
We all agree that regulation of rates and routes has been excessive
and has inflated present cost and fare levels.
We believe the Government should regulate the airlines where neces-
sary to insure the safety and reliability of air transportation — but this
clearly does not require direct Government regulation of airline pricing
and entry to the current extent. We believe the focus of Government
regulation of the airlines should be on these essentially noneconomic
goals, with clear standards and ]5rocedures which insure that regula-
tory powers are not used to unnecessarily limit competition. Even if
full rate regulation is deemed necessary to deal with certain problems —
for instance, the prevention of monopoly pricing in certain rnarkets —
such regulation should be carefully crafted to limit and clarify goals,
standards and procedures.
Eeform only of procedural — rather than substantive — provisions of
the act cannot correct the fundamental problem of its ambiguous and
sometimes conflicting stated objectives. Procedural reform of the act
might well be desirable, but it is not likely to be successful without
a narrowing and clarification of the standards the Board may apply
in making economic decisions, and of the scope of airline activities
subject to those decisions. Such a redefinition of the act's economic
goals and standards would be a substantial improvement. And in our
view, such a redefinition Avould call into question the continued useful-
ness of much of present economic regulation.
CAB AUTHORITY TO GRANT ANTITRUST IMMUNITY
The administration group also agrees that the CAB should not be
given broad authority to immunize from the antitrust laws all the
37
private ao:reements and mergers it approves. Accordingly, our pro-
posals will provide for a much narrower area of antitrust exemption,
and for a merger approval approach generally modeled on the Bank
Merger Act of 1966.
To explain the basis for these rather broad conclusions, I will sketch
briefly the circumstances which led to the imposition of Federal eco-
nomic regulation of the airlines, describe what I believe to be the
lessons of major CAB economic regulatory proceedings, and attempt
to outline some preliminary conclusions.
HISTORY or CAB REGULATIOX
Federal regulation of air transportation has developed primarily
along two paths : one set of statutes which regulate safety, airport and
airway affairs, and another specifically directed toward the regulation
of the economics of air transportation. The first category of statutes
has been the responsibility of the Department of Transportation and
the National Transporation Safety Board for several years. The eco-
nomic regulatory system which the Civil Aeronautics Board adminis-
ters is now embodied by the Federal Aviation Act of 1958, as amended.
The origins of airline economic regulation are usually traced to the
Civil Aeronautics Act of 1938, which generally followed the outline
of the Interstate Commerce Act in setting up most of the major regula-
tory features of today's Federal Aviation Act. Tliere had been partial
economic regulation of air carriers prior to 1938, however. After
experimenting with several different means of administering a system
of subsidized air transport of mail, the Congress determined in 1930
to grant the Postmaster General broad powers over the routes, rates,
and practices of carriers carrying airmail under contract with the
Government. In 1935, the Congress broadened this regulation to. pro-
hibit carriers with airmail contracts from engaging in any service on
routes other than their airmail routes if such service would compete
with another carrier having an airmail contract on that route. The
predominance of mail over passenger service was rapidly diminishing
throughout this period, however, and by 1937 air carrier income from
passenger service was twice as great as mail income. Unregulated car-
riers without airmail contracts began to compete with airmail carriers,
who naturally complained about their unregulated competitors' greater
economic freedom. The Interstate Commerce Commission, which ob-
tained economic regulatory powers over motor carriers in 1935, pressed
for the extension of economic regulation over all air carriers, under the
general theory that it is unfair and "chaotic" foi' unregulated firms to
be allowed to compete with regulated firms.
The protection of a subsidized airmail system was a vital objective
of the drafters of the 1938 act. Even today, a very high percentage
of the provisions of that act, as amended, still are concerned with the
carriage of mail. Today, although the mail system is of crucial im-
portance, it is a small percentage of the air transportation business.
There certainly would be no logical basis today for designing the entire
air transportation system around the mail system, because the needs
of the Postal Service can be met with relatively small and specific
modifications to the larger air system.
Just as the "chaotic" conditions generated by the efforts to develop
an airmail system have disappeared today, we no longer experience
38
two other very important factors which led to the creation of airline
economic regulation in 1938. The Great Depression had shaken our
society's confidence in the free market system, and led to a number
of laws which substituted direct Government economic regulation of
business organizations for the maintenance of free competition. Also,
air transportation in the 1930's was thought to suffer from undue
division of governmental regulatory authority among the Commerce
Department, the Post Office Department, and the Interstate Commerce
Commission, and it was considered a very important function of the
1938 act to combine and coordinate all of these functions within one
agency.
The drafters of the act, however, vehemently denied any intention
to allow the Board to restrain competition or create monopolies. The
act itself directed the Board to maintain "competition to the extent
necessary" to pursue other rather inclusive goals, and explicitly
directed the Board to observe conventional antitrust principles in
deciding merger and interlocking control cases.
The act's reliance upon competition among air carriers shows that
the Congress clearly did not regard air transportation operations as
having "natural monopoly" characteristics which required Govern-
ment control in the place of the discipline of competition. Instead
of detailed control of the rate base, regulation was extended to fares,
entry and exit from specific routes, and agreements and mergers.
MERGERS REASONS FOR
The first category of major CAB economic cases are those in which
the basic structure of the airline industry itself was at issue. In the
last 15 years, the Department of Justice has opposed three major
trunk air carrier merger proposals, which had they been approved,
would have substantially redrawn the route map of the U.S. domestic
system, and considerably increased the already very great concen-
tration of the airline industi^ in the hands of a very few large trunk
air carriers.
Since 1962, we have opposed before the Board the proposed mergers
of American with Eastern, Western with American, and National
with Northwest.
In the last few years, the Department also has studied several other
major airline merger proposals which were never filed and litigated
at the CAB. . .
As a result of studying, testing, and arguing the evidence m these
cases, we have come to the conclusion that in the absence of economic
regulation, the air transportation industry probably would have a
reasonably flexible, competitive structure which would serve the
public better than the present Government-controlled structure. Ex-
perience under economic regulation, and in unregulated air trans-
portation where available, indicates that the industry tends to have
a "competitive" structure, rather than being a "natural monopoly"
which must be regulated in the interests of the public.
Evidence is quite abundant that there are no important economies
of scale in air transportation ; that is, larger firms are not more efficient
or less costly simply because of their size. In fact, other things being
equal, the largest air carriers tend to have a higher level of unit costs,
39
and there are some indications that these increased costs are caused
by the difficulties of managing an airline of very large size.
The airlines' "right-of-way'' is the air itself /and their "tracks," if
any, are the air traffic control guideways maintained by the Federal
Government. Well over 80 percent of the airlines' investment is in
flight equipment, which is among the most mobile of assets, rather
than in fixed assets, as is the case in the classical "natural monopoly."
Not only does this make competitive service economically feasible, but
it makes duplication of routes far less risky, because competitors can
more easily adjust their operations by rescheduling an aircraft from
one city-pair to another — assuming that the Government does not
prevent them from doing so.
In view of this conclusion, why have so many mergers been pro-
posed? Perhaps the most important reasons for mergers among the
regulated air carriers have been the effects of regulation itself. Air
carriers know that when they hold a certificate, it is the nature of
economic regulation that the Board will to a greater or lesser degree
protect them from entry by new competitors on that route. Similarly,
the air carriers know that they cannot expand onto a new route with-
out obtaining a certificate. Consequently, any certificated air carrier,
no matter how poorly run and how debilitated financially and opera-
tionally, has one very valuable asset — its route certificate. This asset
typically has been sold by merger of weak carriers into stronger
carriers. As a result, no large federally certificated air carrier has gone
out of business other than through merger with another federally
certificated air carrier. Because the Board has allowed virtually no
new firms to join the ranks of the certificated air carriers, there has
been a steady diminution in the number of air carriers with certificates
from the Federal Government.
It has been observed that during the period when California intra-
state airlines were essentially free from economic regulation, many
firms entered and left the market, but none of them left tlie market
through merger One very careful economic study of this phenomenon,
and the contrast between unregulated California airlines and the i-egu-
lated interstate airlines m^akes a convincing and apparently unrebutted
case that in the absence of economic regulation there probably would
have been many more competing airlines in the United States than the
CAB has allowed to exist.
As long as new certificates are not freely given, one would expect
that there would be some transfer of certificates as carriers seek to
reorganize their route authorities. However, sale or trade of certificate
authority has been fairly rare, althouirh not unprecedented, because
until lately the Civil Aeronautics Board did not encourage such
"trafficking in certificates." Eecently, the Board's willingness to con-
sider transfer of certificate authority has led to a number of "route
swap"' proposals. Generally speaking, route transfers — including the
reciprocal route transfers currently called route exchanges — are merely
partial mergers. Consequently, as with mergere, there would be far
fewer route transfers, if any, in the absence of entry restrictions.
Other asserted reasons to renulate entry and exit from air trans-
])ortation markets are that without such reqfulation, there ^^'ou^d be
"destructive," or predatory conduct by airline firms, and "chaotic"
conditions Avould constitut^^ a sei-ious public detriment. Let us examine
these fears in turn.
40
UNFAIR COMPETITIOX
In order for predatory conduct to pay off. it is necessary for a firm
to go through two processes : First, it inust drive competitors from the
market by using predatory practices, such as below-cost price cuts.
This kind of conduct is costly to the would-be predator. Second, the
predator must recoup those costs by using the resulting freedom from
competition to behave like a monopolist. This second step will not be
possible if the firms which were driven out can reenter the market
quickly and easily. As I have explained, entrv into air transportation
markets generall}^ would not be difficult to accomplish quickly if there
were no Government restriction. Accordingly, the economists who have
Avritten on this matter have concluded that the prospects for profitable
predatory conduct are poor in this industry. Given these economic
facts, Government regulation of entry actually can cause the predator^'
conduct it is supposed to prevent. A Goveniment pi'ohibition on entry
can be the most effective insurance possible for a predator w^hicli is
trying to recoup the costs of predatory conduct.
SERVICE COMPETITION
Of course, if predatory conduct should take place in the airline in-
dustry, it is subject to the antitrust laws just as it is in another in-
dustry, if it is not somehow immunized by Government action. In
terms of pricing policy, the key point here is that the economic
characteristics of the airline industry are such that even when the
Government eliminates price competition, carriers still have the in-
centive to compete, and will compete any way they can, if only through
"frills'' which are loss important to passengers than price. Once a flight
is scheduled, the cost of carrying additional passengers in the airplane
is very low compared to the cost of flying the airplane in the first
place. Thus, the marginal passenger on a flight is very profitable —
any competitive initiative which diverts passengers onto an airline's
flight may pay off richly.
In scheduled service, it appears that next to price, the variable most
important to the passenger on a scheduled airline flight is the ability
to find a seat on a flight at or near his preferred departure time. Conse-
quently, when the price is fixed, competitive rivalry is diverted into
capacity competition — competing carriers offer large numbers of
flights in an attempt to cover as many preferred departure times and
attract as many customers as possible. The evidence in the recent
capacity reduction agreements case is quite convincing that, even under
the present system of uniform fares, carriers do not have the incen-
tive to offer ruinous amounts of capacity simply because of this
phenomenon. But it is clear that fare regulation has caused the airlines
to offer the consumer large numbers of flights and empty seats instead
of cheaper transportation. Stated another way, they have tended to
"compete away" the "monopoly profits" generated by excessively high
regulated fares.
EVALUATION OF THE DOMESTIC PASSENGER FARE INVESTIGATION
Allowing price competition by the airlines would give them an in-
centive to offer consumers a choice as to the combination of fare and
41
load factor they want, and all the evidence is that the result would be
that lower fares would be available to the users of scheduled interstate
flio:hts. The experience of the intrastate carriers in California and
Texas confirms this. Of cour.se, higher load factors also would be in-
volved— but all this tells us is that the public would rather pay con-
siderably less for travel, even at the price of being somewhat less
certain of getting on their first choice of flight. Accordingly, we were
disappointed when the Board rejected the arguments of the Depart-
ments of Transportation and Justice in favor of allowing air carrier^
to price freely within a "zone of reasonableness" instead of requiring
a rigid adherence to one identical fare for all carriers offering servi 'p.
in a particular market.
We were gratified that the Board decided in Phase 6 of the Domestic
Passenger Fare Investigation to base its fare decisions upon load factor
and seating configuration standards which excluded from the rate base
any service amenity not included in the Board's standards for such
service. Under the iPhase 6 policy, the fare is based on the amount of
capacity associated with a standard load factor, in a standard aircraft
configuration set by the Board, rather than the actual load factor and
configuration of a particular carrier or the industry. We believe this
approach can allow carriers greater freedom to experiment with
different levels of capacity and types of service without being deprived
of the motive to keep their services as economical as possible. In Phase
6 and the related coach lounge proceeding, we argued that the Board
violated the spirit of its Phase 6 policy by attempting to punish a
carrier offering a different type of service by requiring that carrier to
charge a different fare, rather than simply requiring that carrier to
charge a fare based upon the more economical aircraft configuration
which the Board adopted as its standard. This was the first proceeding
in recent years in which we carried our disagreement with the Board
to the court of appeals, and this ma.^ter is now pending rehearing en
banc on the Board's motion after a decision favorable to our position.
We also have pending in the court of appeals a review of the Boards'
decision to extend rate regulation to the charter field for the first time,
despite numerous arguments in opposition.
The Board generally has applied a specific "rule of reason" standard
when it decides whether or not to approve an agreement which restrains
conipetition. That is, if an agreement would have substantial anticom-
petitive effects under established antitrust principles, it will not be
approved unless approval is the only way to meet a serious transporta-
tion need or secure important public benefits. Until very recently, the
Department of Justice has not participated in very many proceedings
concerning air carrier conduct subject to regulation by the Civil Aero-
nautics Board. In recent years, we have opposed capacity restraint
agreements which have been in effect in several markets on the basis
of various purported justifications. The capacity agreement question,
too, is pending in the court of appeals.
CAB POWER TO GRANT ANTITRUST IMMUNITY
Let me if I might go into detail briefly on the issue of antitrust
immunity, which is one of the questions that will be rising later here.
Under the present aviation act, the Board has power to approve or
disapprove mergers (section 408), control relationships (section 409),
42
and agreements among air carriers (section 412). Section 414 of the
Federal Aviation Act provides that the antitrust laws shall not apply
to persons affected by CAB orders issued under these three sections of
the act, to the extent "necessary to enable such person to do anything
authorized, approved, or required by such order." (40 U.S.C. 1384.)
The public interest would be better served if each of the thr-ee types of
transactions as to which the Board can confer immunity were evaluated
under the standards of the antitrust laws, rather than the general
"public interest" rubric of an administrative agency.
It would be desirable to remove the antitrust immunity provisions of
section 414 even if these three types of transactions remain subject to
administrative review. This would insure that the administrative
agency would not follow a less procompetitive standard than that of
the antitrust laws ; the safest way to do this is to eliminate any infer-
ence that the Board's approval brings immunity from an antitrust
lawsuit.
The existence of the section 414 immunity provision creates the
possibility of a lowering of competitive standards not only in the reg-
ulated air transportation industry, but also in industries not regulated
by the CAB. In a recent decision, the Supreme Court held that a
private antitrust action against Hughes Tool Co., a person engaged in
aeronautics, was barred by the Board's approval of and continuing
jurisdiction over the control relationship which was the basis of the
antitrust complaint. The antitrust complaint had centered upon the
approved transactions' competitive effects in the commercial aircraft
manufacturing industry, not in the air transportation industry which
is regulated by the Board.
If any special characteristics of air transportation require departure
from the undiluted application of the antitrust laws, such departure
should be effected by a procedure similar to that of the Bank Merger
Act of 1966. Under that statute a specialized regulatory agency first
passes upon whether a merger would violate the antitrust laws, and
whether it should nevertheless be allowed liecause of specific over-
riding public benefits which could not be obtained by any other means.
The transaction is then subject to de novo review by the United States
in a district court.
Let me if I might now, Mr. Chairman, just very briefly address
several conclusions.
There are a variety of problems that we have addressed in the state-
ment. The Department of Justice and other litigants sometimes can
help maintain a degree of reliance on competition, but under no cir-
cumstances do we believe such liticration brines optimum results. Par-
ties seeking to influence the Civil Aeronautics Board toward more
competitive policies are hampered by the vagueness and inclusiveness
of the statutory standards among which the Board may choose to
justify its decisions, and are hampered by judicial restraint in review-
ing crucial aspects of agencv decisionmnkin.o-. This is exacerbated bv
the very serious costs and delays of litigating economic issues, both
before the Board and in the courts.
These problems will be dealt with in greater detail in later sessions
of these hearings. It will suffice to say now that we do not believe the
serious problems of air transport economic regulation will be satis-
factorily corrected by litisation under present statutory standards,
although such litigation can help somewhat.
43
Neither do we believe that the optimum answer lies in the reform of
procedures under which air carrier economic regulation is carried out.
Unnecessary regulation is still expensive, even if carried out under
clear standards and optimum procedures. It would be possible to have
a much narrower statute seeking specific goals with definite safeguards
for competition and economic efficiency. In air transportation, the
fundamental goal would be the provision of efficient air transportation
to the public by qualified common carriers using safe planes and
qualified crews. A tightly drawn statute would prevent the Board from
limiting competition unless is made findings on the record that com-
petition would compromise safety or reliability of service. Even under
such a statute, the problem of preventing regulation from pursuing
other, anticompetitive goals might prove difficult.
Specifically, we believe that new legislation should move toward the
following goals. First, entry and exit restrictions should be greatly
liberalized. Second, rate flexibility should be introduced through a
phased process, perhaps initially using a zone of reasonableness. Eegu-
latory intrusion with regard to rates within that zone would not be
permitted. Finally, existing antitrust immunity should be removed,
along the lines suggested earlier in this statement.
There is a broad consensus that reform must proceed along all three
of these fronts. The administration has thus concluded that it would
be appropriate to move toward much more reliance upon competition
in the air transportation industry, and much less reliance upon Gov-
ernment economic regulation. We expect to present specific legislative
proposals within a short time to the Congress, and specifically to this
committee.
Thank you, Mr. Chairman.
Senator Kennedy. Thank you very much. We will include all of
your statement in the record.
Senator Kennedy. Do I understand your position correctly that you
would eliminate all antitrust exemptions?
Mr. Kauper. Well, I think there are several parts of that which are
still under some review as to precisely how it should be done. Our
thinking at the moment is that there may be some forms of agree-
ments where a procedure not unlike the Bank INferger Act. pursuant
to which the matter is passed upon by the administrative agency, but
then subject to challenire by us in the U.S. district court, may be the
best way of identifying those particular agreements where there
seems to some peculiar transportaion need, where perhaps under con-
ventional antitrust analysis, there might otherwise be a problem.
I think it is true that a number of kinds of agreements which we, the
administration, feel should be accepted, probably in and of them-
selves do not violate the antitrust laws in any event.
However. I think one does have to keep in mind that among other
things we are a litigious country, and it may be in a few cases the pro-
tection provided by that sort of immunity is desirable for that reason.
We are working those detailed provisions out. They will be part of the
proposals coming before you.
Senator Kexnf.dy. Proposals made by whom ?
Mr. Kauper. By the administration, as part of the whole series of
administration proposals dealing with deregulation in this area.
Senator Kennedy, When are we going to have those ?
44
Mr. Kaiter. I think the specific timeframe is about 6 weeks; at
lea^t I think that is about the frame we are working on now.
Senator Kennedy. And you will spell out. then, as I understand it,
the legislation to carry this forward ?
Mr. Kaiper. Yes. it is our expectation, Mr. Chairman, those will be
in the form of legislative proposals.
Senator Kexxedt. Are you satisfied with the opportunity for the
antitrust division to participate in the regulatory agencies" decision-
making?
Mr. Kauper. Well, I think we have been able to participate in the
sense of being a formal party. That is, when there is a particular
proceeding, our views are submitted. We have, as I think you know,
Mr. Chairman, put a good deal of time and effort and resources into
exactly that sort of thing. So that I do not think — let me put it this
way — I do not think the agency is suffering from any want of knowl-
edge of our views. In fact, they probably have them more than they
would care for them.
Senator Kennedy. I suppose the real question is the power to have
an impact on the decision.
Mr. Ivauper. Well, I think that is a somewhat different question.
Obviously in a variety of these areas, once the agency has arrived at
its decision, the ballgame is in large part over from our point of view.
That is, at that point, it has become a question of antitrust immunity.
There are some instances in which we may be able to proceed into the
appellate courts. That is still a matter of doing it by way of review of
the agency decision, with all the appropriate weight an appellate
court gives to an agency determination.
So I think the suggestion is that we follow a procedure that would
contemplate that we ourselves would have an independent ability to
go to court. I think that is what is necessary. There is implict in that,
in terms of our powers, that they are not adequate at the present time.
Senator Kennedy. Are you going to recommend that Congress give
you more power in this?
Mr. Kauper. Yes, I think that would be one result of the proposal.
Senator Kennedy. Can you give us a little bit better idea how the
consumers- interests will be served with this opportunity that you
describe here ?
Mr. Kauper. Well, I think, Mr. Chairman, it is our feeling the con-
sumer usually benefits in a whole variety of ways through competi-
tion, and I suppose that variety would be present here. We would
anticipate lower fare levels. We also contemplate that the consumer
would have some choice, which in large part he does not today have.
He does not have a choice as to whether he wants a meal served to
him on a given plane or whether he does not. He is going to pay for
it in any event. He does not have any choice on the fare structure.
So I would expect we would see improvement not only when he
pays, but in the choices available to him. Those are the normal results
of competition, and I see no reason why we would see anything dif-
ferent here.
Senator Kennedy. Well, if this is carried forward, you do not think
it will make it more difficult for the airlines to make agreements with
regards to passenger interests, such as common baggage handling for
connecting flights and reservation systems ?
45
Mr. Kauper. It should not make those things more difficult. We
are as concerned as anybody that the joint operations which are in
existence and provide a continuity of service to the passenger be
continued. That is not the major concern of our proposal.
Senator Kennedy. Do they need antitrust exemptions for those
agreements ?
Mr. Kauper. I think there are many kinds of agreements, and
many of them probably do not. There may be some kind of arrange-
ment with respect to the use of airports, for example, that might lend
themselves to antitrust complaints, that might technically be a refusal
to deal or so on that might invite a challenge by a third party.
Generally, there is a pretty good concensus as to the nature of these
agreements, and it is simply the right of the mechanics of doing it.
There is not any particular disagreement over their nature or whether
they should be permitted.
Senator Kennedy. What are you doing about international rate-
setting ?
Mr. Kauper. I did not come up here today with all of the prepara-
tion on international affairs, but I think what we are doing at the
moment is participating in additional administration efforts to try
to reexamine these policies. It is a considerably more complicated
process and that is one of the reasons we have not addressed that. It is
complicated by the bilateral arrangements between governments with
respect to air carriers and a variety of things that make that a more
complex matter. I think all I can say on that today, Mr. Chairman,
is there is additional work going on on the whole international struc-
ture and the fare-making process. I would hope there would be some
additional recommendations coming out of that.
Senator Kennedy. Do you believe that this system is really a sort
of price-fixing cartel ?
Mr. Kauper. Well, I do not think there is any way one could not call
it a price-fixing cartel. It is quite clearly that. It is an agreement among
airlines with respect to fares. Whether or not there are reasons for
that particular structure, where, after all, you do not have a single
government in charge of regulation, but certainly it functions just as
any other cartel would in setting fares. In any classic definition of
cartel, I would suppose it is one.
Senator Kennedy. OK.
I want to thank you very much.
Mr. Kauper. Thank you, Mr. Chairman.
[The prepared statement of Mr. Kauper follows :]
Prepared Statemen^t of Thomas E. Kauper. Assistant Attorney General,
Antitrust Division. Department of Justice
Airline Regulation by the Civil Aeronautics Board
Mr. Chairman, I am happy to be here today to present the views of the
Department of Justice and to report on the work that the Administration is
doing on economic regulation of domestic air transportation.
Airline regulation needs review at this time. For 37 years, we have operated
under a statutory arrangement which assumed that airline?; were like railroads,
requiring extensive rate and entry regulation : that subsidized mail carriage was a
dominant concern ; and that the airline busniess was an industry requiring special
government promotional efforts on its behalf. We all know that much has hap-
pened during those 37 years. We know that airlines are not like railroads, that
46
open comretition and entry policies have worked in California and Texas to
produce higher load factors and lower fares. We know that the airlines have
become the leading source of public inter-city transport and that the mail busi-
ness is utterly dwarfed by passenger business.
Airline costs affect us all as citizens, taxpayers and consumers. They affect us
when we buy products, when we carry out our jobs, and when we travel for
pleasure.
Airline costs are in turn directly affected by airline regulation — for it is
regulation which tells carriers on which routes they can conii)ete and what means
of competition they can use. Basically, it keeps entiy tight, while allowing car-
riers to compete in terms of service but not price. The result is, as you would
expect, a system which sets both price and service at leAcls above what they
would be in a competitive market, in other words, there are more planes, with
more empty seats, and the customer pays more than he would under a regime of
open comi>etition. Thus, competitive operations in California have generally
produced fare levels that were 40 percent lower than the CAB approved fare
level, while the carriers have enjoyed considerably higher load factors.
For years, nobody much worried about CAB price and entry policies, because
we were in a continuing trend of improving equipment, declining cost, declining
prices and rapidly growing traffic. The airline traveler's world was getting better,
even though CAB rate and entry regulation was probably slowing down at least
the rate at which fares declined, and encouraging excess capacity.
Now, however, the situation has changed. Due to sharply higher fuel and labor
costs, airlines have requested, and the Board has approved, a whole series of
fare increases, which have come at a time when the public at large was if any-
thing less able to pay these fares. At the same time, the Board has actively sought
to cut back on low-price air travel, through limitations on promotional fares and
restrictions on charter activity. The result of all this has been to raise fares
considerably for everyone and to raise them enormously for certain classes of
users. The overall effect has been to produce an almost unprecedented substantial
reduction in air travel — more empty seats on scheduled flights and fewer charter
flights. The reduction in demand has tended to push up the airlines' unit costs,
since they have had to spread out their fixed costs over fewer passengers. This
in turn has provided the impetus for renewed fare increases, a situation likely to
further reduce air travel and hence again increa.se unit costs. The resulting spiral
of increasing fares and costs means that the smaller proportion of the public
which can afford to fly gets reduced service at increased prices.
We in the Administration have been studying for some time how to break out
of this upward spiral of prices and costs. We have concluded that the most hope-
ful avenue is a substantial relaxation of existing price and entry regulation,
which forces, or at least strongly urges, carriers to offer excessive amounts of
unused seats at excessively high fares. That system of regulation has in addition
prevented innovative newcomers from coming into the business of interstate air
transportation, in the interest of protecting the established carriers against new
competition. We believe that more open competitive pricing, if given a chance,
would broaden the carriers' entrepreneurial opportunities by giving them a chance
to compete with lower fares as well as with extra seats. We believe that it would
tend to bring interstate air transportation more into line with what we saw in
California and Texas : an environment of lower fares and fuller planes. If this
occurs — and both actual experience and economic theory suggest that it will — we
will have found a basis for breaking the cycle of rising costs and declining serv-
ice. Lower prices are likely to come quite quickly and lower prices are likely to
encourage new traffic quite quickly. By the same token, liberalized entry rules —
an environment with less emphasis on route protection — are likely to get onto
the routes those carriers who are most eflicient at serving them. In a competitive
environment, such efficiencies can in turn be passed on to the traveler in the form
of lower fares.
The Department's perspective on airline regulatory problems is based of course
on our experience in enforcing the antitrust laws in a great variety af industries
having a diversity of cost and capital characteristics. It is based on our extensive
participation before the CAB in a variety of proceedings. And it is based on our
experience in antitrust enforcement in other regulated industries, some of which
have economic characteristics similar to those of air transportation. Our experi-
ence tells us that regulated firms I'arely welcome freer entry rules and more
flexible pricing. They generally want to be protected from outsiders and protected
from each other by a benevolent regulator. In the airline field, regulated firms
47
generally have opposed pricing flexibility and offered capacity cartel agreements
instead, let our experience also tells us that in fact competition works in reg-
ulated environments much more efficiently than the regulated firms generally
believe; and we find increasing use of competition in place of direct regulation
as a tool to promote efficiency in a number of regulated environments, ranging
from wholesale electric power to securities markets.
The Department is currently working with the Department of Transportation,
the Council of Economic Advisers, the Council on Wage and Price Stability and
the Office of Management and Budget to develop detailed Administration pro-
posals which respond to this reality in the transportation sector. We hope to
have detailed proposals for air transport regulation reform for presentation to
the Congress in the near future. At this point, these agencies have arrived at a
broad consensus in principle, which we will discuss today.
We all agree that regulation of rates and routes has been excessive and has
inflated present cost and fare levels.
We believe the government should regulate the airlines where necessary to
ensure the safety and reliability of air transportation — but this clearly does not
require direct government regulation of airline pricing and entry to the current
extent. We believe the focus of government regulation of the airlines should be
on these essentially noneconomic goals, with clear standards and procedures
which ensure that regulatory powers are not used to unnecessarily limit competi-
tion. Even if full rate regulation is deemed necessary to deal with certain prob-
lems— for instance, the prevention of monopoly pricing in certain markets —
such regulation should be carefully crafted to limit and clarify goals, standards
and procedures.
The present Federal Aviation Act does not identify limited specific economic
goals and set forth standards and procedures to achieve those goals and avoid
undesirable side effects. Rather, it offers the Board an open-ended mandate,
which can be — and frequently is — used to protect carriers rather than the travel-
ing public, and to protect operating inefficiencies which ultimately must be paid
for by the public.
Reform only of procedural (rather than substantive) provisions of the Act
cannot correct the fundamental problem of its ambiguous and sometimes conflict-
ing stated objectives.
Procedural reform of the Act might well be desirable, but it is not likely to be
successful without a narrowing and clarification of the standards the Board
may apply in making economic decisions, and of the scope of airline activities
subject to those decisions. Such a redefinition of the Act's economic goals and
standards would be a substantial improvement. And in our view, such a re-
definition would call into question the continued usefulness of much of present
economic regulation.
The Administration group also agrees that the CAB should not be given broad
authority to immunize from the antitrust laws all the private agreements and
mergers it approves. Accordingly, our proposals will provide for a much narrower
area of antitrust exemption, and for a merger approval approach generally
modeled on the Bank Merger Act of 1966 (which allows the courts to adjudicate
the legality of a merger under the antitrust laws, subject to agency participation
on broader public interest issues).
To explain the basis for these rather broad conclusions, I will sketch briefly
the circumstances which led to the imposition of federal economic regulation of
the airlines, describe what I believe tojie the lessons of major CAB economic
regulatory proceedings, and attempt to outline some preliminary conclusions.
I. A BRIEF HISTORY OF FEDERAL ECONOMIC KEGTJLATIOX OF AIR TRANSPORTATION
Federal regulation of air transportation has developed primarily along two
paths : one set of statutes which regulate safety, airport and airway affairs, and
another specifically directed toward the regulation of the economics of air trans-
portation. Tl.e first category of statutes has been the responsibility of the Depart-
ment of Transportation and the National TransiJortation Safety Board for
several years.^ The economic regulatorj- system which the Civil Aeronautics
Board administers is now embodied by the Federal Aviation Act of 1958, as
amended.*
1 Federal Aviation Act of 1958. 72 Stat. 7.31. 49 U.S.C. 1301 et seq. ; Department of
Transportation Act 1966, 80 Stat. 931, 49 U.S.C. 16.51.
a Id.
48
The origins of airline economic regulation are usually traced to the Civil
Aeronautics Act of 1938,^ which generally followed the outline of the Interstate
Commerce Act in setting up most of the major regulatory features of today's
Federal Aviation Act. There had been partial economic regulation of air carriers
prior to 1938, however. After experimenting with several different means of
administering a system of subsidized air transport of mail, the Congress deter-
mined in 1930 to grant the Postmaster General broad powers over the routes,
rates, and practices of carriers carrying air mail under contract with the
government.* In 1935, the Congress broadened this regulation to prohibit car-
riers with air mail contracts from engaging in any service on routes other than
their airmail routes if such service would compete with another carrier having
an airmail contract on that route.* The predominance of mail over passenger
service was rapidly diminishing throughout this period, however, and by 1937
air carrier income from passenger service was twice as great as mail income."
Unregulated carriers without airmail contracts began to compete with airmail
carriers, who naturally complained about their unregulated competitors' greater
economic freedom."
The Interstate Commerce Commission, v.'hich obtained economic regulatory
powers over motor carriers in 1935,** pressed for the extension of economic regu-
lation over all air carriers." under the general theory that it is unfair and
"chaotic" for unregulated firms to be allowed to compete with regulator firms.^"
The protection of a sul)sidized airmail system was a vital objective of the
drafters of the 1938 Act. Even today, a very high percentage of the provisions of
that Act, as amended, still are concerned with the carriage of mail. Today,
although the mail system is of crucial importance, it is a small percentage of the
air transportation business. There certainly would be no logical basis today for
designing the entire air transportation system around the mail system, because
the needs of the postal service can be met with relatively small and specific
modifications to the larger air system.
Just as the "chaotic" conditions generated by the efforts to develop an airmail
system have disappeared today, we no longer experience two other very important
factors which led to the creation of airline economic regulation in 1938. The
Great Depression had shaken our .society's confidence in the free market system,
and led to a number of laws which substituted direct government economic regu-
lation of business organizations for the maintenance of free conii>etition. Also,
air transportation in the 1930's was thought to suffer from undue division of
governmental regulatory authority among the Commerce Department, the Post
OflSce Department, and the Interstate Commerce Commission, " and it was con-
sidered a very important function of the 1938 Act to combine and coordinate
all of these functions within one agency." Thus, the 'caotic and destructive" con-
ditions which frquently are thought to be the 1938 Act's genesis are now only a
matter of history.
As this history indicates, airline regulation must be viewed against the partic-
ular background of the circumstances which created it in order to understand
its goals. Various parties involved in the drafting and pas.sage of the original
1938 Act made references to their desire to allow regulation of "chaotic" competi-
tion among air carriers, and given the above description of the Act's historical
context, such as desire seems understandable. The drafters of the Act, however,
vehemently denied any intention to allow the Board to restrain competition or
create monopolies." The Act itself directed the Board to maintain "competition
to the extent necessary" to pursue other rather inclusive goals," and explicitly
3 52 Stat. 973.
*46 Stat. 259 (1930).
B49 Stat. 619.
«C. S. Rhyne, The Civil Aeronautics Act Annotated (1939), p. 35.
T Id. 32-33.
s Motor Carrier Act of 1935, 49 U.S.C. 301 et seq.
9 Rhyne, supra, 32-33.
1" The ICC advanced similar arjcuments with re.spect to competing surface modes. Boies,
Experiment in Mercantilism : Minimum Rate Regulation by the ICC, 68 Colum. L.R. 599,
614-15 ; J. Meyer, M. Peck. J. Stenason, C. Zwich, Economics of Competition in the Trans-
portation Industries 10 (1964) ; Report of the Attorney General's National Committee to
Study the Antitrust Laws 269 (1955) ; Coordination of Motor Transportation, 183 ICC
263 (1932).
^ As noted above, certain of the noneconomic regulatory functions conferred upon the
CAB's predecessor agency were later transferred to other agencies. See note 1, supra.
"H. Rept. vo. 22.54. 75th Cong., 3rd Sess., April 28, 1938; 83 Cong. Rec. 5960.
"83 Cong. Rec. 6729-32.
" Section 1, 49 U.S.C. sec. 1301.
. 49
directed the Board to observe conventional antitrust principles in deciding merger
and interlocking control cases/^
The Act s reliance upon competition among air carriers shows that the Con-
gress clearly did not regard air transportation operations as having "natural
monopoly" characteristics which required government control in the place of the
discipline of competition. Unlike the usual statute regulating a •"natural monop-
oly,' the Act does not require, but rather prohibits, government control of the
regulated firms" investment in equipment or facilities, and of the specific services
tliey provide under their certihcates." Instead of detailed control of the rate
base, regulation was extended to fares, entry and exit from specific routes, and
agreements and mergers.
Other characteristics of the original 1938 Act seem to have been included
largely because the Interstate Commerce Act was taken as a model. Thus the
1938 Act prohibited discrimination, preference or prejudice among various users
of air transportation, requireu joint fares for connecting trafiic, and allowed
classification of regulated air carriers into various categories.
II. THE LESSONS OF MAJOR CAB ECONOMIC PROCEEDINGS
With that background on the origins of the present Act, I will now turn to the
way it has been administered, and what we have learned in the process.
Market structure
The first category of major CAB economic cases are those in which the basic
structure of the airline industry itself was at issue. In the last 15 years, the
Department of Justice has opposed three major trunk air carrier merger pro-
posals,^' which, had they been approved, would have substantially redrawn the
route map of the U.S. domestic system, and considerably increased the already
very great concentration of the airline industry in the hands of a very few large
trunk air carriers.
In 1962, we opposed the proposed American-Eastern merger before the Board.
The hearing exajniner ruled in our favor, finding that consummation of the merger
would create an airline with more than one-third of the entire domestic airline
industry's business, greatly increase existing economic concentration in the air-
line industry, create a regional monopoly in the northeastern United States, and
create numerous city-pair monopolies within that region. The merger proposal
was subsequently withdrawn.
Ten years later, the Department opposed the merger of Western Airlines with
American on similar grounds, although there was very little actual overlap
between the American and Western systems. The hearing examiner recom-
mended disapproval, essentially on nonantitrust grounds, and the merger was
withdrawn after the Board issued an order disapproving it.
A merger proposal between National Airlines and Northwest Airlines, which
we opposed on the grounds that it would increase concentration in the trunk
airline industry and destroy important potential comi^etition between the two
merger partners, also was withdrawn after the hearing examiner issued a decision
recommending disapproval on antitrust grounds. In the last few years, the
Department also has studied several other major airline merger proposals
which were never filed and litigated at the CAB.
These merger proposals have raised very serioug questions as to the proper
structure of the industry, both as to the need for the proposed merger and as
to its likely effect on competition and other important economic processes. As a
result of studying, testing and arguing the evidence in these cases, we have
come to the conclusion that in the absence of economic regulation, the air trans-
portation industry probably would have a reasonably fiexible, competitive
structure which would serve the public better than the present government-
controlled structure. Experience under economic regulation, and in unregulated
air transportation where available, indicates that the industry tends to have a
"competitive" structure, rather than being a "natural monopoly" which must be
regulated in the interests of the public.
IS Section 408(b), 49 U.S.C. sec. 1378.
"Section 401(e)(4), 49 U.S.C. sec. 1371.
" See American-Eastern Merger. Recommended Decision of Hearing Examiner Ralph L.
Waser, docket 13355, November 27, 1962 ; American- Western Merger Case, orders 72-7-91
and 72-7-92, and docket 22916, June 13, 1972 ; Northwest-National Merger Agreement,
Recommended Decision of Associate Chief Examiner Robert L. Park, docket 23852, May 22,
1972.
51-146 O - 76 - pt. 1 - 5
50
Evidence is quite abundant that there are no important economies of scale in
air transportation ; that is, larger firms are not more efficient or less costly simply
because of their size. In fact, other things being equal, the largest air carriers
tend to have a higher level of unit costs, and there are some indications that
these increased costs are caused by the difficulties of managing an airline of
very large size.^^
The reasons for this are apparent — the airlines' "right of way" is the air itself,
and their "tracks" if any, are the air traflSc control guideways maintained by
the Federal Government. Well over 80 percent of the airlines' investment is in
flight equipment, which is among the most mobile of assets, rather than in fixed
assets, as is the case in the classical "natural monopoly." " Not only does this
make competitive service economically feasible, but it makes duplication of routes
far less risky, because competitors can more easily adjust their operations by
rescheduling an aircraft from one city-pair to another — assuming that the gov-
ernment does not prevent them from doing so.
In view of this conclusion that air carriers will not become more eflScient or
more profitable by merging to become larger, why have so many mergers been
proposed? Perhaps the most important reasons for mergers among the regulated
air carriers have been the effects of regulation itself. Air carriers knovv that
when they hold a certificate, it is the nature of economic regulation that the
Board will to a greater or lesser degree protect them from entry by new com-
petitors on that route. Similarly, the air carriers knovv that they cannot expand
onto a new route without obtaining a certificate. Consequently, any certificated
air carrier, no matter how poorly run and how debilitated financially ana opera-
tionally, has one very valuable asset — its route certificate. This asset typically
has been sold by merger of weak carriers into stronger carriers. As a result, no
large federally certificated air carrier has gone out of business other than through
merger with another federally certificated air carrier. Because the Board has
allowed virtually no new firms to join the ranks of tlie certificated air ca.riers,
there has been a steady diminution in the number of air carriers with certificates
from the Federal Government.
It has been observed that during the period when California intrastate airlines
were essentially free from economic regulation, many firms entered and left the
market, but none of them left the market through merger. One very careful eco-
nomic study of this phenomenon, and the contrast between unregulated California
airlines and the regulated interstate airlines makes a convincing and apparently
unrebutted case that in the absence of economic regulation, there probably would
have been many more competing airlines in the United States than the CAB has
allowed to exist.*"
As long as new certificates are not freely given, one would expect that there
would be some transfer of certificates as carriers seek to reorganize their route
authorities. However, sale or trade of certificate authority has been fairly rare,
although not unprecedented, becau.se until lately the Civil Aeronautics Board did
not encourage such "trafficking in certificates." Recently, the Board's willingness
to consider transfer of certificate authority has led to a number of "route swap"
proposals.
When there is limited entry, we believe that transfers of certificate authority
very well may provide a practical means of reorganizing certificated route author-
ity in a form more closely aligned with the economic or operational requirements
of the air transportation system. The carriers' objective in a route swap is, of
course, to increase profits. In cases where the increase in profits would take place
becau.se the route can be served more efficiently as part of the transferee's route
system, we believe the transfer of authority may well be in the public interest.
Tlie motive for a route transfer, however, may be to eliminate competition, as
where two carriers both possess authority on a given route, and one proposes to
"In the American-Western Merger Case, (locket 22916, see exhibits DOT-T-1 ; CO-RT-
500, pp. 7. 16-24; CO-R-512-ol7 ; CO-R-.528-529 ; RW-120-12,5 ; RW-SR-900 ; BOR-R-
100. In the National-Northwest Merger Case, docket 23852, see exhibits DOT-T-1, DJ-1,
DJ-RT-1, and Transcript pp. 1412-13.
The numerous academic studies in this area apparently all conc'ude that there are no
economies of scale in the airline industry above the size of the very smallest air carriers.
See sources cited in G. Douglas and .1. Mil'er. Economic Regulation of Domestic Air Trans-
port (1974), pp. 14-15, and W. .Tordan, Airline Regul.ition in America (1970), pp. 191-194.
The Board itself hf\s endorsed in general terms the conclusion that there are constant
returns to scale in the industry. Domestic Passenger Fare Investigation, phase 5 — Dis-
count Fares, order 72-12-18 (December 5. 1972). p. 48.
" \merican-Western Case, supra, exhibit D.T-RT-1, p. 5 ; see also order 72-12-18, supra,
p. 48.
20 Jordan, supra, pp. 14-33.
51
transfer its authority to the other, eliminating competition between the route
swap partners on that route. In such cases the public is likely to be injured by
the xeduction in competition on that route. We have opposed some anticompeti-
tive route exchange proposals, notably the American-Pan American route ex-
change involving Caribbean and South Pacific routes,"' and the Pan American-
TWA agreement,'- which involves both Atlantic and Pacific routes.
Generally speaking, route transfers, including the reciprocal route transfers cur-
rently called route exchanges, are merely partial mergers. Consequently, as with
mergers, there would be far fewer route transfers, if any, in the absence of entry
restrictions.^^
We have seen that the "natural monopoly" argument for regulating entry and
exit finds no support in the facts of air transportation economics. Other asserted
reasons to regulate entry and exit from air transportation markets are that
without such regulation, there would be "destructive," or predatory conduct by
airline firms, and "chaotic" conditions would constitute a serious public detri-
ment. Let us examine these fears in turn.
In order for predatory conduct to pay off, it is necessary for a firm to go through
two processe.< : First, it must drive competitors from the market by using preda-
tory practices, such as below-cost price cuts ; this kind of conduct is costly to the
would-be predator. Second, the predator must recoup those costs by using the re-
sulting freedom from competition to behave like a monopolist. This second step
will not be possible if the firms which were driven out can reenter the market
quickly and easily. As I have explained, entry into air transportation markets
generally would not be difficult to accomplish quickly if there were no government
restriction. Accordingly, the economists who have written on this matter have
concluded that the prospects for profitable predatory conduct are poor in this
industry.-*
Given these economic facts, governinent regulation of entry actually can cause
the predatory conduct it is supposed to prevent. A government prohibition on
entry can be the most effective insurance possible for a predator which is trying
to recoup the costs of predatory conduct.
Of course, if predatory conduct does take place in the airline industry, it is
subject to the antitrust laws just as it is in another industry, if it is not somehow
immunized by government action.
In the New England sen'ice investigation, where the benefits of entry and exit
regulation for small (and presumably relatively less stable) air carriers were
directly in issue, the Administrative Law Judge found on the basis of the record
tliat there had been no evidence of predatory behavior.^^ The proponents of entry
and exit regulation in that case argued, and the Board agreed,^ that there is a
public interest in "continuity of service" which requires some entry and exit
regulation. We question this re. ult, in view of the Administrative Law Judge's
uncontroverted finding that although commuter carriers had entered and exited
several New England markets, there had been no significant lapses of service to
the public because of this turnover."' In light of these facts, the "continuity of
.service" which entry and exit control brings is not an assurance of service to the
public, but an assurance of tenure to the carrier. Essential public facilities such
as grocery stores and i harmacies do not enjoy this type of protection from com-
petition, and we see no reason why air carriers should.
Pricing
The Department of Justice has been very selective in participating in fare pro-
ceedings at the Civil Aeronautics Board,, because the economics of the industry
change rapidly enough to seriously limit the future applicability of many deci-
sions as to specific fare levels. As a result, participation in complex proceedings
on specific fares may produce considerably less important benefits than one would
expect from the same expenditure of effort in a structural proceeding. The
Department did participate in the Board's recent Dome.stic Passenger Fare Inves-
tigation (DPFI), however, because we believed the Board's decisions in that pro-
=1 American Airlines, Inc.-Pan American World Airways, Inc. Route Exchange Agree-
ment, docket 26245 (pending).
22.\pplication of Pan American World Airways, Inc. and Trans World Airlines, Inc. for
Approval of an Agreement, docket 27114, et al.
23 See American-Western Merger Case, exhibit DJ-RT-1, supra, pp. 6-10.
=* See sources cited in A. Kahn, The Economics of Regulation, pp. 219-20.
^ Initial Decision of Administrative Law Judge Greer M. Murphy, docket 22973, July 9,
ig?.-?. p. 75.
2« Order 74-7-70, July 17, 1974 ; p. 15.
" Initial Decision, New England Service Investigation, supra, p. 75.
52
ceeding not only would bring important revisions in the level and structure
of all domestic airline fares, but would set the rules under which that level and
structure would be set for many years to come. Largely on the basis of compre-
hensive evidence produced by the Department of Transportation, we became
convinced that airlines would be more efficient and less likely to engage in waste-
ful service competition — flying empty seats and piano bars — if the Board en-
couraged them to compete on the basis of price, instead of preventing them from
doing so by fixing one fare which all carriers must charge.
The key point here is that the economic characteristics of the airline industry
are such that even when the government eliminates price competition, carriers
still have the incentive to compete, and will compete any way they can, if only
through "frills" which are less important to passengers than price. Once a flight
is scheduled, the cost of carrying additional passengers in the airplane is very
low compared to the cost of flying the airplane in the first place. Thus, the mar-
ginal passenger on a flight is very profitable — any competitive initiative which
diverts passengers onto an airline's flight may pay off richly.
In scheduled service, it appears that next to price, the variable most important
to the passenger on a scheduled airline flight is the ability to find a .seat on a
flight at or near his preferred departure time. Consequently, when the price is
fixed, competitive rivalry is diverted into capacity competition — competing car-
riers offer large numbers of flights in an attempt to cover as many preferred
departure times and attract as many customers as possible. The evidence in the
recent capacity agreements case is quite convincing that, even under the present
system of uniform fares, carriers do not have the incentive to offer ruinous
amounts of capacity simply because of this phenomenon. But it is clear that fare
regulation has caused the airlines to oft"er the consumer large numbers of flights
and empty seats instead of cheaper transportation. Stated another way, they
have tended to "compete away" the "monopoly profits" generated by excessively
high regulated fares.
Allowing price competition by the airlines would give them an incentive to
offer consumers a choice as to the combination of fare and load factor they
want, and all the evidence is that the result would be that lower fares would be
available to the users of scheduled interstate flight. The experience of the intra-
state carriers in California and Texas confirms this. Of course, higher load factors
also would be involved— but all this tells us is that the public would rather pay
considerably less for travel even at the price of being somewhat less certain of
getting on their first choice of flight. Accordingly, we were disappointed when the
Board rejected the arguments of the Department of Transportation and Justice
in favor of allowing air carriers to price freely within a "zone of reasonableness"
instead of requiring a rigid adherence to one identical fare for all carriers offer-
ing service in a particular market.
We were gratified that the Board decided in phase 6 of the DrFI to base its
fare decisions upon load factor and seating configuration standards which ex-
cluded from the rate base any service amenity not included in the Board's stand-
ard for such service.
Under the Phase 6 policy, the fare is based on the amount of capacity associ-
ated with a standard load factor, in a standard aircraft configuration set by
the Board, rather than the actual load factor and configuration of a
particular carrier or the industry. We believe this approach can allow carriers
greater freedom to experiment with different levels of capacity and types of
service without being deprived of the motive to keep their services as economical
as possible. In Phase 6 and the related coach lounge proceeding,^^ we argued
that the Board violated the spirit of its Phase 6 policy by attempting to punish
a carrier offering a different type of service by requiring that carrier to charge
a different fare, rather than simply requiring that carrier to charge a fare
based upon the more economical aircraft configuration which the Board adopted
as its standard. This was the first proceeding in recent years in which we
carried our disagreement with the Board to the Court of Appeals, and this
matter is now pending rehearing en banc on the Board's motion after a decision
favorable to our position.
We also have pending in the Court of Appeals a review of the Board's
decision to extend rate regulation to the charter field for the first time, despite
numerous arguments in opposition.
2" ChicaKo-Los Angeles F.ire Hednction Case, docket 25r-,H7, now pending action b.v the
court of appeals as Continental Airlines, Inc. v. Civil Aeronautics Board, D.C. Cir. Nos.
73-1714, 73-1718.
53
Competitive Restraints
it dP<^i<i^''f ^ generally has applied a specific "rule of reason" standard when
It decider whether or liot to approve an agieement which restrains competition.
tftU\ . '*" agreemeut would have substantial anticompetitive effects under
established antitrust principles, it will not be approveu unless approval is the
only nay to meet a serious transportation need or secure important public bene-
nts.- Until very recently, the Department of Justice has not participated in very
many proceedings concerning air carrier conduct subject to regulation by the
Civil Aeronautics Board. In recent years, we have opposed capacity restraint
agreements which have been in effect in several markets on the basis of various
purported jusufications. The capacity agreement question, too, is pending in the
Court of Appeals.
The capacity reduction agreement case, in which we participated in a lengthy
hearing at the Civil Aeronautics Board last year, dealt with several issues of
general competitive significance, and we believe the record of that proceeding
casts further doubt on the need for the existing type of economic regulation in
air transi)oration. Specifically, proponents of capacity agreements were able in
that proceeuing to proauce virtually no evidence that carriers which flood the
market with schedules tend to attract a greater proportion of passengers from
their competitors, so that even under the present fixed price-no-entry conditions
of the regulated air transport industry, carriers do not really have economic
incentives to engage in ruinous overschedaling.
The evidence established instead that overcapacity and misallocation of ca-
pacity in the regulated air transportation system can be traced to economic
regulation actions by the Board, primarily the prescription of noncompetitive
fares which allow breakeven operations at low load factors, and a record of
"bailing out" carriers which make improvident competitive decisions.
The capacity case was unusual in that the Administrative Law Judge ordered
some very informative discovery into the decisionmaking process of the air carrier
proponents of capacity restraint agreements. One fact that emerged was that if
the Board were to strictly enforce its Phase 6 load factor standards, air carrier
management would reduce the level of excess capacity in the industry, provided
it believed that the Board would not take regulatory action to protect air carrier
profits despite their failure to observe the load factor standards.^ Unfortunately,
the Board has on occasion acted to "bail out" individual carriers which get into
trouble ; the carriers know this, and they act accordingly. Thus, even an enlight-
ened and potentially effective regulatory policy such as the Board's load factor
standard can be impaired or negated by the regulator's natural and perhaps
inevitable proclivity to protect the firms it regulates.
The capacity agreement case also illustrates another generic problem with
economic regulation : these anticompetitive agreements were instituted not in
markets where any economic problem existed, but in the largest, more profitable
markets of the largest air carriers.^^ Such anticompetitive restraints were neces-
sary, argued the Board's Bureau of Operating Rights, in order to produce higher
than normal profits, in some markets, profits which in theory could be used to
cross-subsidize markets in which average profits could not be obtained.'^
Arguments that the Civil Aeronautics Board should effect a sub rosa tax upon
one class of consumers for the benefit of another illustrate, we believe, the un-
fortunate results of giving an economic regulatory agency quite comprehensive
powers, and only the vaguest statutory directives as to how those powers are to be
exercised. The legislation which set up o^r present system of economic regula-
tion of air carriers did not at any point direct the Board to tax some consumers
for the benefit of others, but it did provide the Board with the tools to do so
and with a set of conflicting, vaguely worded objectives, one of which always
could be selected to justify such anticompetitive actions.
Antitrust Immunity
Under the present Federal Aviation Act, the Board has power to approve or
disapprove mergers (Sec. 408), control relationships (Sec. 409), and agreements
=9 Local Cart^ffe Ajrrepment Ca^e 15 CAB 8.50 (lft.52> ; North Atlnntic Tourist Com-
mission Case, Ifi CAB 225, 226 (1952) ; Six Carrier Mutual Aid Pact, 29 CAB 158 (1959).
The Siinreme Court has confirmed the annronriateness of nn irientlcal st-'ndnrd in
Fderal Maritime Commi/tnion v. fivenxka Amerika Linien. ,390 TT.S. 2.'?8, 244. 246 (1967).
sofnnncitv Rpdnction Apreement Case, docket 2290S exhihit D.T-A and testimony of
Rindnll Mali". tra"scrint 486-94 : see also tran.scrint 2579. 1410-11.
31 Docket 2290S. Brief of the TTnl+ed Stntes Department of .Tustice to the Administrative
Lnw ,Tm1ee. no. 18-2.3 ; Replv Brief, np. 10-14.
^Docket 22908, Brief of the Bureau of Operating Rights to the .Administrative Law
Judge.
54
among air carriers (Sec. 412). Section 414 of the Federal Aviation Act provides
that the antitrust laws shall not apply to persons affected by CAB orders issued
under these three sections of the Act, to the extent "necessary to enable such
person to do anything authorized, approved, or required by such order." (49 U.b.C.
1384) The public interest would be better served if each of the three types of
transactions as to which the Board can confer immunity were evaluated under
the standards of the antitrust laws, rather than the general "public interest"
rubric of an administrative agency. . ^ ^ ^,
If economies of scale were more prevalent in the air transport industry than
in the general economy, and these economies were considered more important than
the advantages of having an unconcentrated air transport industry, there might
be a basis for applying agency review and antitrust immunity with respect to the
three areas subject to the section 414 immunity provision. It is manifest, how-
ever, that such economies of scale do not exist, and there is no other evidence
that anticompetitive industry structure or conduct is any more in the public
interest in the air transport industry than in the economy in general. Thus, these
types of transactions should be subject to the standards of antitrust law, not
administrative law.
It would be desirable to remove the antitrust immunity provisions of section
414 even if these three types of transactions remain subject to administrative
review. This would insure that the administrative agency would not follow a
less procompetitive standard than that of the antitrust laws; the safest way
to do this is to eliminate any inference that the Board's approval brings immunity
from an antitrust lawsuit. See, e.g., United States v. Philadelphia National Bank,
374 U.S. 321 (1963). The agency thus would be free to apply a higher standard
of protection for competition but not a lower one. This is the approach of the
Atomic Energy Act of 1954 (42 U.S.C. Sec. 2135).
The existence of the section 414 immunity provision creates the possibility of
a lowering of competitive standards not only in the regulated air transportation
industry, but also in industries not regulated by the CAB. In a recent decision,
the Supreme Court held that a private antitrust action against Hughes Tool Co.,
a person engaged in aeronautics, was barred by the Board's approval of and
continuing jurisdiction over the control relationship which was the basis of the
antitrust complaint. The antitrust complaint had centered upon the approved
transactions' competitive effects in the commercial aircraft manufacturing in-
dustry, not in the air transportation industry which is regulated by the Board.
(Hughes Tool Co. v. Trans World Airlines, Inc., 409 U.S. 363, 366). Thus, the
effect of the Court's decision may be to allow the Board to create immunity from
the antitrust laws — presumably applying the standards of administrative law —
in industries where it has only limited jurisdiction to protect competition, or no
jurisdiction at all.
If any special characteristics of air transportation require departure from the
undiluted application of the antitrust laws, such departure should be effected by
a procedure similar to that of the Bank Merger Act of 1966. Under that statute
a specialized regulatory agency first passes upon whether a merger would violate
the antitrust laws, and whether it should nevertheless be allowed because of spe-
cific overriding public benefits which could not be obtained by any other means.
The transaction is then subject to de novo review by the United States in a Dis-
trict Court.
III. CONCLUSIONS
The Board has used its comprehensive powers and amorphous policy mandate
in part to promote what it perceives as stability and "financially sound condi-
tions" in the industry. Each regulated air carrier is confined to a particular class
or type of service on particular routes. Along with mergers and route protection,
the result has been an ever dwindling number of competitors within each regu-
lated category. There is abundant evidence that this protection against competi-
tion has in itself led to considerably higher prices and lower eflBciency than
would be available in the absence of entry control.*"
This imposes .serious economic costs directly upon consumers of air transpor-
tation, and indirectly upon the entire economy. In addition to these direct costs,
regulation restricts the freedom of air carriers to enter and leave markets as
market forces indicate, and instead require them to go through expensive, time-
rs See sources cited in Douglas and Miller, supra 42, 54 ; 172.
55
consuming and unpredictable legal processes before engaging in normal rearrange-
ments of tlieir operations. This has generated waste, inflexibility, and insensitivity
to the desires of consumers. It also has kept out of the industry many firms which
could have made valuable contributions.
The fare policy of the CAB appears to have taken a turn for the better in some
respects as a result of the DPFI. As I have explained above, actual enforcement
of the load factor standards could bring considerable progress toward breaking
the declining load factor, escalating price cycle. Also in the DPFI, the Board
found that cross-subsidization is inefllcient and adverse to the public interest,
and moved to reduce the cross-subsidization inherent in the present fare struc-
ture." As the discussion above indicates, however, it remains to be seen whether
the Board will follow through on these principles and apply them everywhere
they need to be applied.
In the area of pricing flexibility, there has been little change. The Board
reaffirmed in the DPFI the practice of pricing on an industry average basis so
that all regulated carriers, regardless of their relative efficiency, will continue
to survive, and none will have too great an incentive to develop a greater level of
efficiency than that of its fellow regulatees. This "cost-plus" pricing policy has
deprived consumers of a variety of price and quality options. Given the carriers'
tendency to engage in service competition which the Act allows the Board to
regulate only indirectly, the result is not even high profits — just waste.
All of these problems, plus the recent economic downturn and fuel price crisis,
have led the Board in recent years to move into one area it previously had largely
avoided — the approval and even promotion of anticompetitive agreements such
as pooling, capacity restraint agreements and "route swaps" which in reality
amount to enforceable agreements not to complete. The common goal in each of
these recent agreements has been to decrease or at least stabilize competition and
increase the rate of return in the industry. The result, in many instances, has been
a serious decline in the quality of service coupled with a dramatic increase in
prices over and above increases required by costs such as the increased cost of
fuel.
What can be done about this? The Department of Justice and other litigants
sometimes can help maintain a degree of reliance on competition, but under no cir-
cumstances do we believe such litigation brings optimum results. Parties seeking
to infiuence the Civil Aeronautics Board toward more competitive policies are
hampered by the vagueness and inclusiveness of the statutory standards among
which the Board may choose to justify its decisions, and are hamjiered by judicial
re-straint in reviewing crucial aspects of agency decisionmaking. This is exacer-
bated by the very serious costs and delays of litigating economic issues, both
before the lioard and in the courts.
These problems will be dealt with in greater detail in later sessions of these
hearings. It will suffice to say now that we do not believe the serious problems
of air transport economic regmation will be satisfactorily corrected by litigation
under present statutory standards, although such litigation can help somewhat.
Neither do we believe that the optimum answer lies in the reform of procedures
under which air carrier economic regulation is carried out. Unnecessary regula-
tions is still expensive even if carried out under clear standards and optimum
procedures. It would be possible to have a much narrower statute seeking spe-
cific goals with definite safeguards for competition and economic efficiency. In
air transportation, the fundamental goal would be the provision of efficient air
transportation to the public by qualified tommon carriers using safe planes and
qualified crews. A tightly drawn statute would prevent the Board from limiting
competition unless it made findings on the record that competition would com-
promise safety or reliability of service. Even under such a statute, the problem
of preventing regulation from pursuing other, anticompetitive goals might prove
difficult.
Specifically, we believe that new legislation should move toward the following
goals. First, entry and exit restrictions should be greatly liberalized. Second, rate
flexibility should be introduced through a phased process, perhaps initially using
a zone of reasonableness. Regulatory intrusion with regard to rates within that
zone would not be permitted. Finally, existing antitrust immunities should be
removed, along the lines suggested earlier in this statement.
There is a broad consensus that reform must proceed along all three of *^hese
fronts. The Administration has thus concluded that it would be appropriate to
Order 74-3-82, p. 72 (March 18, 1974).
56
move toward much more reliance upon competition in the air transportation in-
dustry, and much less reliance upon government economic regulation. We expect
to present specific legislative proposals within a short time to the Congress, and
specifically to this Committee.
Senator Kennedy. Mr. James Miller, currently senior staff econ-
omist for the Council of Economic Advisers, received his Ph. D. from
the University of Virginia in economics, formerly served on the senior
staff for the Republican Party from 1969 to 1972. In 1973-74 he was
an assistant associate professor, now on leave; he edited a number of
books, including economic regulation of domestic air transport. We
also received a statement from his coauthor, Mr. George Douglas
which we will make a part of the record.
[The prepared statement of George Douglas, professor of economics.
University of Texas, is included at the end of the testimony of this
day (February 6, 1975), p. 437, below.]
STATEMENT OF MR. JAMES MILLER, SENIOR STAFF ECONOMIST,
COUNCIL OF ECONOMIC ADVISERS
Mr. Miller. Thank you.
Mr. Chairman, we have a prepared statement that I ask be inserted
into the record. Mr. Seevers is unable to be here and sends his regrets.
As you know, today the Joint Economic Committee is hearing testi-
mony by the full Council on the economic report.
Senator Kennedy. That is where I am supposed to be, too.
Mr. Miller. In our testimony we deal basically with three issues.
The first is the cost of airline regulation. The second is the efficiency
of a hypothetical totallj^ deregulated market. Finally, we outline, as
Messrs. Barnum and Kauper did, the kinds of proposals the admini-
stration is presently discussing in formulating a legislative package.
On several occasions this morning, questions have arisen about as-
pects of less regulated or totally deregulated markets that many people
question. We deal with several of these in the testimony. I would like
to briefly respond here.
SAFETY AND COMPETITION
First, on the question of safety, the Federal Aviation Administra-
tion is the governmental instrumentality charged with regulation of
safety in the airlines. On the basis of theory and evidence, there is
a lot of question the allegation that economic regulation is needed to
assure safety of operations. As mentioned in the testimony, we per-
formed such a test on data and found that while the results were
statistically insignificant, meaning that regulation had no effect on
safety, the nature of the result actualy give an appearance of a positive
relationship between air fatality rates and the airlines' rate of return
on investment.
I agree that in formulating any kind of regulatory reform measure
one should be very cognizant of the safety issue, but I do not believe
economic regulation is the appropriate means of assuring air safety.
^ 57
SMALL-TOWN SERVICE (CROSS-SUBSIDY)
Second, with respect to question of small communities' losing air
service because of regulatory reform, this first presumes that there is
a lot of cross-subsidy going on. The work I accomplished with my
coauthor, George Douglas, indicates that the amount of cross-subsidy
is grossly overstated. Professor George Iliads who is scheduled to
testify later, will probably have some additional remarks on this issue.
We have also observed that commuter airlines have replaced trunk and
local service carriers quite successfully. We have no reason to believe
that with less regulation their effectiveness would be diminished.
RELATIONSHIP BETWEEN FARE AND ROUTE ENTRY FLEXIBILITY
The question of pricing flexibility hinges very much on the question
of entry. On the low side, as long as entry is relatively free, the carrier
which is trying to predatorily jDrice one of its competitors out of the
market stands nothing to gain, because as soon as it runs the last one
out, it has to confront the possibility of a new entry. On the high side,
it is again important that entry be relatively free. A carrier wishing
to charge excessively high fares would be restrained from doing so be-
cause of the threat of entry.
On fly-by-night operators, even if you had less economic regulation,
you would still have the constraints of safety regulation. This would
mean that such operators would have to meet safety standards. They
might by fly-by-night in the sense of going in the market and leaving
the market in a very short period of time, but I do not see what real
damage that would do to the consumer.
Senator Kennedy. I suppose the damage to the consumer is unre-
liability. Here is one carrier in the market one day making his reser-
vations and plans, and the carrier is out of the market the next.
Mr. Miller. Senator, I do not think we should underestimate the
value of a reputation in something like tliis. The carrier which is new
to the market will be viewed skeptically. It is through trustworthy
service that a carrier generates new traffic.
NEED FOR LEGISLATION
I would like to make a final remark about the issue of CAB discre-
tion. I think it is true that the CAB could promulgate many of the
reforms that we have talked about this morning through the existing
statute. However, I do not think it will do so, and I think the evidence
of regulation in the past is a very forceful argument to make us
skeptical about their being willing to move forward with this kind of
reform in the future.
Senator Kennedy. AVhy is that?
Mr. Miller. I think incentives the regulator faces are not generally
consistent with economic efficiency. I think the statute itself — for
example, the declaration of policy, section 102 — is drawn in such a way
as to give emphasis to a lot of different conflicting objectives. A regula-
tor who does not want to be concerned with efficiency can find an eas}'^
excuse for not doing so.
58
Also, as a matter of procedure, even if you had a compromising
Civil Aeronautics Board, five economists whose sole objective was
to maximize economic efficiency, to the extent they would be changing
precedent and moving in very new directions, I would imagine there
would be a significant protest of such activity. I am not an expert on
law, but I am not confident this kind of activity would survive court
tests.
Senator Kennedy. Let me just ask you from the point of view of
the Council whether you feel from that vantage point that the idea of
greater competition in terms of rates and entry would be beneficial
from an overall economic point of view for our economy or from the
consumer point of view.
Mr. Miller. I think it is the major objective of the Council to rec-
ommend policies or present analyses which focus on economic efficiency
questions as they pertain to regulation and other types of governmental
controls. This, of course, counts the consumer to a very large measure.
After all. Senator, the ultimate objective of production is consumption.
Senator Kennedy. Could you develop your thoughts briefly on the
question of cross-subsidization. Then secondly, it is really an unrelated
question, with this proliferation of new airlines and different prices,
how will the consumer know w^here to go to get a ticket, will we have
mass confusion or do you think this is a manageable problem Would
you talk on those two questions ?
CHAOS
Mr. Miller, I will be glad to. Let me take the latter first. Informa-
tion is a scarce resource, and when consumers know a producer charges
a specific rate, and these rates are not likely to be changed, the pro-
ducer's reputation is enhanced. Consumers find out this information;
producers advertise as well. In a freely competitive airline market,
consumers would learn the prices that are charged and the carriers that
provide good service — the same way as in existing competitive, un-
regulated markets.
CROSS-SUBSIDY (SMALL TOWN SERVICE)
NoAv, on the question of cross-subsidy, we essentially model the air-
lines in the following way : Because there is a lot of competition today^ —
most markets are served by two or more carriers — the Board is really
in the business of setting the quality of service. They set the price and
carriers compete on the frequency of schedules and other means so
as to bring the cost level up to the price level. For example, transcon-
tinental markets were referred to a few minutes ago where the prices
are such that carriere can break even at 40 to 45 percent load factors.
Carriers do, in fact, schedule up to the point where they are breaking
even at those load factors. If the Board lowered the price, then the
carriers' break even point would be higher. They would restrict sched-
uling. This would drive up load factors. So in these markets the
carriers are earning neither excess profit nor losses.
On short-haul markets where the fare taper is such that the price —
vis-a-vis the cost of a constant load factor service — is too low, the car-
riers simply cut back on scheduling and provide fairly poor service.
Again, in these markets the carriers tend to earn neither excess profits
nor losses.
So our general conclusion, based on this and additional information,
is that there is not much cross-subsidy actually taking place.
Senator Kennedy. Very fine. Thank you very much.
[The prepared statement submitted by Mr. Miller for himself and
Mr. Seevers follows :]
Prepared Statement of Gary L. Seevers, Member, Council of Economic
Advisers and James C. Milleik, Senior Staff Economist
Economic Effects of Regulation of the Domestic Air Carriers by the CAB
Mr. Chairman, members of the Committee : We are pleased to appear before you
today to discuss the economic effects of regulation of the domestic air carriers by
the U.S. Civil Aeronautics Board.
For a number of years the Council has questioned the efficacy of airline regula-
tion and suggested certain reforms. As a matter of fact, our most recent eco-
nomic report,* published just two days ago, contains a section which discusses
airline regulation and which implies that certain reforms are needed. A copy of
that section of the report is attached as an appendix to this testimony.
In the remainder of this testimony we outline what we consider to be the
major costs of CAB regulation, we examine the economic performance of a
hypothetical deregulated air carrier market, and we indicate the kinds of
regulatory reforms the Administration now has under review.
The Costs of Airline Regulation
As they pertain to the airlines, economic conditions today are very much
different from what they were in 1938, when airline regulation was established.
At that time, the U.S. Government was attempting to promote an "infant" in-
dustry through an inefficient system of airmail subsidy. Basically, the Govern-
ment granted contracts to air carriers and prevented competition on those
routes where contracts were granted. Recognizing the potential for excess profits
on passenger services then or in the future, carriers would "buy-in" on these
contracts for extremely low rates.^ This perfectly rational economic behavior on
the part of the air carrier firms was then cited as evidence of "destructive
competition" in the airline industry and thus a need for governmental interven-
tion to "rationalize" competition." It was also said that governmental controls
were needed to assure safety of operations.
Today, the domestic airline industry is no longer an infant industry in need
of promotion ; having increased in size since 1938 some 250-fold, by most stand-
ards it is now truly "mature". Mail contracts are no longer the vehicle for sub-
sidy, and as a percent of total domestic revenue subsidy has declined from
31.6 percent in 1939 to less than 1 percent today. Except for minor payments to
Northeast Airlines in the mid-1960's, the trunk carriers have been completely
off subsidy since 1959." Air safety, which until 1958 was a primary CAB con-
cern, is now vested with the Federal Aviation Administration of the Department
of Transportation (DOT)."
Another important change in the nature of the industry and its regulation is
that the principal city-pair markets today are served by two or more airlines.^
* Economic Report of the President, Washington, GPO, February 4, 1975.
' See Richard E. Caves, Air Transport and Its Regulators : An Industry Study. Cam-
brldpe. Harvard I'niversity I'ress, 1962, p. 124.
- Note that the lesi.slative "Declaration of Policy" admonishes the Board to create
"Competition [only?] to the extent necessary to assure the sound development of an air-
transportation system . . ." [OrlRlnal (1938) language now contained as section ia2(d)
of the Federal Aviation Act of 1958, as amended.]
'' For a discussion of the existing subsidy mechanism and its deficiencies, see George C.
Ends, The Local Service Airlines Experiment, Washington, The Brookings Institution,
1972.
* Responsibility for investigating air accidents was transferred from the CAB to the
National Transportation Safetv Board in igoO.
■5 Note that from 1955 to 1971 the percentage of total revenue pa.ssenger miles attributed
to markets where 2 or more carriers eacli accounted for at least 10 percent of the market
rose from 55.6 percent to 76.6 percent. Sec, George W. Douglas and James C. Miller III,
Economic Regulation of Domrxtic Air Transiiort: Theory and Policy, Washington, The
Brooklnga Institution, 1974, p. 114.
60
Thus, in addition to no longer regulating so as to promote an infant industry
and no longer regulating air safety, the Board finds itself no longer preoccupied
with regulating monopoly. Instead, its primary activity is regulating comi)etition.
But under CAB regulation this competition is of a rather special sort : It is mani-
fest almost totally in dimensions other than price.
A potential price-cutter in a CAB-regulated market faces significant costs in
carrying out such an initiative. First, the carrier must announce the new rate at
least 30 days in advance, thereby alerting its competition to the intended action.'
Second, there is the simple cost of publishing the new tariff with the Board, as
legally required. Third, any fare decrease is likely to be protested by competitors
as being unreasonably low, discriminatory, preferential, prejudicial, or simply
an instance of "unfair competition." Thus, the price-cutter nearly always must
make an affirmative case before the Board that the new rate is justified, and
this, of course, costs money.
The new rate may be rejected outright or set down for investigation. If it is
rejected, then of course any advertising by the carrier about the prospective
lower rates is lost, and perhaps on balance creates ill will because the carrier
is unable to deliver. If the rate is suspended, the carrier may either withdraw
the initiative or pursue it further. If the rate reduction is pursued, then signifi-
cant procedural costs must be absorbed by the initiating carrier as the rate
travels through various steps : prehearing conference, hearing, briefs to the
Administrative Law Judge, possibly briefs to the full Board, oral argument, and
possibly, in the end, even court challenges.
Because of these impediments, one observes little price competition in the air-
lines. When rates are lowered they are usually done so in the interest of the
whole industry, as for example, introducing discount fares to enlarge total rev-
enues and to make the airlines more effective in competing with other modes of
common-carrier transportation, such as intercity buses. Another ramification
of this constraint system is that from the standpoint of an individual airline
it makes little sense to change the rate in just one market. In an attempt to
"spread the cost," airlines which propose rate reductions usually do so on fairly
large chunks of traffic, although such a strategy inevitably reduces the likeli-
hood of ultimate approval by the Board and of course raises litigation costs.
The Board's statutory authority to control price and its procedures for imple-
menting that control thus have rendered price competition in the airlines all but
non-existent. On the other hand, there are other means that carriers have for
attracting and competing for passengers over which the Board exercises little
or no direct control. Such non-price competition takes various forms, including
costlier meals, "free" drinks, expensive advertising, flashy interior and exterior
color schemes, "VIP" airport lounges, on-board lounges, pianos, bars, and the
like. But much more important, in terms of its ultimate cost to the consumer,
is the scheduling form of non-price competition. As will be discussed below,
scheduling additional flights is the most effective means that individual carriers
have of attracting additional pas.sengers. Notably, except for its power to grant
antitrust immunity and to orchestrate capacity agreements among carriers, the
Board is prohibited from controlling schedule competition. '^
For any price that is approved or, in essence, "set" by the Board, the market
has a "break-even" load factor, which we define so as to include a normal return
on investment.* If actual load factors are below the break-even level, the carriers
will be earning less than a normal profit, or even accounting los.ses and will cut
back on capacity. Since market demand is inelastic with respect to capacity,*
load factors will rise, and the process of capacity curtailment will continue
until actual load factors have risen to the break-even level, at which point the
incentive to reduce capacity unilaterally will disappear." On the other hand, if
actual load factors exceed the break-even level, individual airlines have profit
incentives to increase capacity. Actual load factors will fall and the process will
s Thus, there is no such thing as a conventional "sale" in the airline business.
''Section 401(e)(4) of the Federal Aviation Act states that, "No term, condition, or
limitation of a certificate shall restrict the right of an air carrier to add or change
schedules ..."
8 "Load factor" is the proportion of seats filled, usually expressed as a percentage.
8 That is, the percentage change in total traffic in the market is less than the percentage
change in the marl^et's total capacity.
1° Short of the break-even load factor an individual carrier can safety assume that It
reduces capacity its competitors will also. However, once equilibrium has been renched,
a carrier reducing capacity unilaterally may not assume that its competitors will do
likewise.
61
continue until capacity increases have reduced actual load factors to break-even,
at which point there is no more incentive to add to capacity .^^
An extremely important aspect of this non-price competition is that there
is a whole range of prices which the Board may choose and still enable com-
petitive returns to the individual carriers, or at least to the carriers as a group.
If the Board chooses a "high" price, the break-even load factor will be "low"
and, in equilibrium, so will be the actual load factor. If the Board chooses a
"low" price, the break-even load factor will be "high" and, in equilibrium, so
will the actual load factor. The nature of this trade-off between fare and average
load factor is displayed in figure 1."
ATenge Load Tiaetor (Psreent)
(l)reak-«vea)
100
Figure 1
(For iUustratlon purposes ooly; not drava to sealv. )
" When market load factors are above break-even, an individual carrier can make
more profit by expanding its own capacity provided other carriers do not also expand their
capacity. The evidence suggests that cnrriers act as though they make such an assumption.
A variant explanation of observed behavior is that since an individual carrier may not
assume that its competitors will not increase their capacity it must increase its capacity
just to maintain its market share. In any event, when the break-even load factor is reached,
there is no incentive to increase capacity, since the market load factor will fall below
break-even and each carrier may assume that its competitors will follow a policy of
restraint.
For a more thorough description of this nonprlce-competing behavior and evidence on
same, see Douglas and Miller, ibid., chapter 4 and the papers cited therein by De Vany,
Douglas, Miller, Straszheim, Yance, Barnekov, Eads, Milward, and White. For an em-
pirical analysis of the relationship between market shares and capacity shares, see James C.
Miller III, "Airline Market Shares vs. Capacity Shares and the Possibility of Loss
Kquilibria" (processed, 1974) and CAB Docket 22908 (Capacity Reduction Agreements
Casel DOT-T-1 through ,5 (1974).
^- Notably, the Board would appear to have accepted this model of regulated-carrier
behnvior. In a decision in its recent domestic passenger fare investigation (CAB Docket
21866), the Board said :
"We find . . . that the higlier the fare level in relation to cost, the more capacity carriers
will offer and the lower load factors will be : and, conversely, the lower the fare level, the
less capacity carriers will operate and the higher load factors will be." [CAB Order 71-
4-54 (April 9, 19710, p. 23.]
62
Over a fairly wide range of prices, carriers, in equilibrium, will earn normal
profits — and thus, arguably, the choice of price is not material to them. How-
ever, the passenger's cost of service is greatly dependent upon the price and load
factor option chosen by the Board. In esssence, the passenger's "full cost"
of travel is the ticket price plus the "cost" of delays he, or she, incurs in waiting
for a flight. We see in figure 1 the rather obvious proposition that as the average
load factor rises the associated break-even fare falls. If this were the only
element in the passenger's cost of service, public policy would dictate a fare
consistent with load factors of near 100 percent. However, as load factor falls
delay cost increases. Passengers find it more diificult to secure accommodations
on the desired departure and flights are fewer, with more time in between
departures. When translated into money terms this delay cost is as characterized
in figure 1. The passenger's full cost of service is thus the sum of these two
types of cost, i.e., ticket price plus delay, and, given these two curves, for some
average load factor level the "full cost" is at a minimum, i.e., ALF.
A recent Brookings publication by Professors Douglas and Miller came to the
conclusion that the Board has chosen too low a load factor standard, i.e., 55 per-
cent as opposed to 60-65 percent, and consequently is promulgating fares which
are too high." This means that the typical passenger is paying an "excess fare"
which exceeds the value of the reduction in delay. This in turn means a higher
full cost of service with no offsetting higher profits to carrier. Thus, there is regu-
lation-induced excess capacity which represents a deadweight loss to society."
Douglas and Miller estimate that during 1969 air passengers paid excess fares to
domestic trunk carriers ranging between $366 million and $538 million, for
which they received quality improvements valued at between $118 million and
$182 million. This leaves a deadweight welfare loss in trunkline service for 1969
of between $248 million and $356 million.'^
Since 1969 the Board has established target load factors of 55 percent as
opposed to the then-prevailing levels of approximately 50 percent. However, the
recent increases in fuel prices have raised the optimal average load factor to
approximately 65-70 percent, so the present configuration of service is still
characterized by efficiency costs on the same order of magnitude. Based on total
domestic trunk revenues of $9,316 million for the year ending September 1973,
this implies a current annual welfare cost for trunk service ranging between
$355 million and $509 million.
There are additional costs of airline regulation. First, there is evidence that
the relationship between the Board and the industry has resulted in a level, and
structure, of fares which maximizes total capacity rather than one which maxi-
mizes total passenger traffic." This is illustrated in figure 2." Since some costs are
"external" to the airlines and their passengers, this behavior has quite likely
resulted in excessive investments in airport and airway facilities as well as
excessive consumption of fuel.
Second, the Board's policy of protecting existing carriers from competition by
preventing the entry of new carriers ^* not only means that the public has been de-
nied lower price-quality options, but that potentially more efficient carriers have
not been able to test the efficiency of existing carriers. Whether new carriers
would have significantly lower costs is subject to considerable debate, but evi-
dence on relative carrier costs and the evidence from unregulated markets cer-
tainly raises this possibility.^* There are two significant problems with this ap-
proach, however. First, a regulator is inherently less capable of administering
resources "correctly" than is an individual competitive entrepreneur. The regu-
" In the DPFI the Board announced its intention of in effect setting fares at levels
which would cover costs (plus a reasonable return on investment) on the basis of an
industry-wide average load factor of 55 percent.
i*The analysis only briefly summarized here can be found in Douglas and Miller, ibid.,
chapter 6.
'5 Miller and Douglas, ibid., p. 172.
i« See Arthur S. De Vanv, "Effects of Price and Entry Regulation on Airline Output,
Capacity and Efficiency," Bell Journal of Economics and Management Science, (forth-
coming Spring 1975; and Douglas and .Miller, ibid., pp. 60 and 176-77.
"Rather than choosing fare level F*, the Board has chosen fare level F**. Figure 2 is
adapted from De Vany, ibid.
18 Since regulation w.ns established in 1938. not a single new trunk carrier has entered
the market, and not a single trunk has exited the market except through merger.
19 See Robert J. Gordon, ".\irline Costs and Managerial Efficiency" in Transportation
Economics : .\ Conference, Columbia Universitv Press for the National Bureau of Economic
Research, 1965, pp. 61-94 ; Theodore E. Keeler, "Airline Regulation and Market I'erform-
ance," Bell Journal of Economics and Management Science, Autumn 1972, pp. ,'?99-424 ;
William A. Jordan, Airline Regulation in America : Effects and Imperfections, Bnltimore,
The Johns Hopkins Press, 1970, chapter 11 ; and Douglas and Miller, ibid., pp. 141-9.
63
Aure Linrel
Figure 2
(Tar illttstratioD porpoaet ooJor; aot drawn to scale. )
lator neither has information as good as that of the entrepreneur nor does he,
or she, have the appropriate incentives. Second, in terms of fact versus theory,
the performance of the existing regulatory agencies causes one to be extremely
skeptical of achieving good industry performance by relying upon regulation.
ECONOMIC EFFICIENCY OF DEREGULATED MARKETS
Costs of regulation such as those described above implicitly assume some
alternative, usually and ideally, efficient markets. In real life, critics of regula-
tion must be careful to identify realistic alternatives. Two such alternatives im-
mediately come to mind: (a) "enlightened" regulation, and (b) total deregula-
tion. On the one hand, it is entirely possible that a truly enlightened regulator
could eliminate most of the costs described above. For example, in an ideal set-
ting the CAB could adopt target load factors by market characteristic and ac-
cordingly, by regulating fares, eliminate the costs of "excess capacity."
At the other extreme is the hypothetical, completely deregulated, competitive
market.^ The theoretical argument for the eflBciency of deregulated airline mar-
kets is extremely powerful. The airline industry appears to conform closely to
the necessary conditions for price competition : no significant scale economies,^
fairly elastic or firm demand, relative difficulty of coordinating pricing and output
policies i.e., collusion, and, in the absence of controls, relative ease of entry and
exit.
=0 For this di-scussion, by the term "deregulation" and its derivatives we mean the elimi-
nation of economic regulation only, not the elimination of s-^fety regulation.
^ On the question of scale economies see Douglas and Miller, ibid., pp. 13-18 and the
sources cited therein.
64
Finally, there are numerous regulator-imposed constraints on routings and
service requirements which serve to raise costs."' To our knowledge a precise esti-
mate of all these costs has not been made. In our judgment this figure would be
in the neighborhood of $1 billion per year, or around 10 percent of total domestic
trunkline revenues.-^
Looking at the question of optimal price and load factor, with fare flexibility,
a carrier would have an alternative means of attracting additional passengers :
lowering price. The carrier could then judge the most effective way of attracting
business : lowering price or providing more service. The result would be the ap-
propriate market combination of price and quality. Moreover, in some markets
there may well be a distribution of price and quality combinations that is de-
sired by the public.-* Free markets provide incentives for this configuration to
come about.
Under conditions of free entry and free exit, firms would have to stand a more
substantive "market test" of their efliciency. More efficient firms would survive,
and inefficient firms would be forced to exit. The removal of restrictions on rout-
ings w^ould result in lower costs to consumers, and uneconomical markets would
be abandoned. There might well be some "market imperfections," -° but in eco-
nomic efficiency terms these would probably be fairly minor.
Of course, we would like to rely upon facts concerning deregulated markets as
well as upon theory. Unfortunately, we do not have ideal tests of deregulation
since the CAB has preempted truly comparable experiments. However, we do
have two deregulated markets that are similar in many respects to CAB-regulated
markets, except, of course, for differences in the degree of regulation.
First, we have the intrastate markets, which are outside CAB jurisdiction.
Prior to 1965, the California Public Utilities Commission regulated maximum
prices in intrastate air service, but not entry and exit."" Professor William A.
Jordan has made an extensive study of the history and economic character of
this market and has concluded that in virtually all respects the California intra-
state airline market is much more efficient than comparable interstate CAB-
regulated markets." Even today, with tighter regulation, fares in California intra-
state markets average much less than fares in comparable interstate markets.
A similar result was obtained in the Texas intrastate market, where Southwest
Airlines, a carrier licensed by the Texas Aeronautics Commission, is in compe-
tition with BranifE Airways, a CAB-regulated trunk carrier, and Texas Inter-
national Airways, a CAB-regulated local service carrier. Despite having its
service introduction postponed nearly four years because of judicial challenges by
Braniff and Texas International, the carrier is now serving the "golden triangle"
(Dallas, Austin, and Houston) at a profit, charging fares which average some
20 to 50 percent less than comparable CAB-regulated fares.
The other major unregulated market is that of commuter airlines, previously
known as air taxis. In 1952, faced with doing something about a plethora of
illegal interstate air taxi operations, the Board simply exempted from regulation ^
any interstate air carrier which utilized aircraft having no more than 12,500
pounds gross take-off weight.^ At that time it was thought that no operator could
provide profitable scheduled operations with such small aircraft. Subsequently,
however, technology changed, and equipment of this w^eight is now capable of
carrying up to 19 passengers at reasonable comfort and speed and at relatively
low cost. Today there are literally hundreds of such operators which provide
regularly-scheduled service to low-density markets — and in some higher-density
22 Some of these have been instituted to assure service to points that the Incumbent
carrier might not ordinarily serve. To some extent, then, such costs are revealing of the
resource costs of pursuing certain social "non-economic" objectives.
23 Note that these losses are not simply transfers from consumers to producers or from
consumers to consumers. They represent the economic cost of squandered resources.
2* For example, a low load factor, low-density, high-amenity, high-priced service cater-
ing to business travelers, and a low-cost, no-frills service catering to the vacation traveler.
At present such specialization is limited — another cost of regulation.
25 These include: (a) collusion over prices and/or service, (b) quasi-monopoly service in
marginal niarlvcts. and (c) inefficient mixes of aircraft and frequencies. On the latter
point, see George W. Douglas, "Equilibrium in a Deregulated Air Transport Market," paper
delivered at a seminar on Problems of Regulation and Public Utilities, Dartmouth College,
1972. processed.
2« Since then control over entry and exit has been instituted.
2' .Jordan, ibid. Also see Bureau of Accounts and Statistics. "Traffic, Fares, and Competi-
tion : Los Angeles-San Francisco Air Travel Corridor", Washington, U.S. Civil Aero-
nautics Board, 1965.
28 Under section 416(b) of the Federal Aviation Act.
29 That standard was recently changed to a 30-passenger capacity and a net payload of
no more than 7,500 pounds.
65
markets, often in direct competition with trunk and local service carriers Since
with tew exceptions these carriers receive no government subsidy, and since they
are handieappeu in terms of tiie size of the aircraft they may operate they tend
to serve marginal, or uncertain routes; thus, their turnover is judged by some as
being fairly high. However, it is notable that such unregulated carriers serve
many markets that CAB-reguiated carriers have chosen to abandon and that
tneir service, given their equipment and the characteristics of their markets, is
sate and reliable.
By no means has the brief discussion touched on all the characteristics of
deregulated markets. In the space remaining, however, we should like to respond
to the more signiticant criticisms raised by those who oppose less regulation of
the domestic air transport system :
1. Without regulation, flights would be unsafe. Critics of deregulation argue
that regulation is needed to insulate carriers from market forces; otherwise the
"dog-eat-dog ' atmosphere of free comi^etition would lead carriers to skimp on
safety, to the public's detriment. There are several answers to this; First, the
governmental instrumentality charged with air safety is the FAA, not the CAB.
Deregulation, as we have defined it, would leave the FAA's role unaffected.
Second, there is little direct evidence that economic regulation has had any
effect on air safety. For example, the Board has never withdrawn or suspended
the certificate of a trunk operator on grounds that its operations were unsafe,
and its constraints on entry have seldom if ever revolved around issues of safety.
One variant of the safety hypothesis is that high profits mean safe operations.
However, when we tested this naive proposition over the period 1939 to 1953,
for which there appeared to be adequate variations in profit rates and fatality
rates to make a test feasible, we found the result contrary to what critics of
deregulation would have predicted. While the net effect was small and statisically
not meaningful, the result actually showed a positive relationship between in-
dustry profit rates and industry fatality rates.^
2. Under deregulation there would be wholesale abandonment of markets, leav-
ing only the "top-25" (or top-50 or top-100) markets with adequate service. This
prediction is based, in essence, upon the assumption that CAB regulation pres-
ently constraints the abandonment of hundred of markets. In particular, it is
argued that the present pricing structure enables a considerable amount of cross-
subsidy whereby a carrier uses the excess profits from some markets to offset
losses in others that presumably would not receive service under deregulated
conditions. Miller and Douglas have found that the extent of this cross-subsidy
is greatly overstated,^ and apparently the Board agrees.^^ If this is true then
presumably most alleged "losing" markets are in fact self-supporting and would
not be abandoned if regulation were terminated. Second, even if one carrier aban-
dons a market, this is not to say that some other carrier could not serve it at a
profit.^ Third, there may be points which would be abandoned if carriers were
restrained to the CAB-regulated fare, but free to charge a higher fare if need be,
carriers could serve many such markets at a profit. There are numerous cases
where trunks or local service carriers have abandoned markets that were later
served by commuter carriers at a profit, often a slightly higher price and a more
frequent service configuration.
3. Under deregulation, only a handful of carriers would survive. This could
happen, but if it did such industry concentration would not be a problem. Since
there are no pervasive .scale economies, there is little reason to anticipate this
outcome any more than one might anticipate the emergence of several hundred
operators. However, even if only a handful of carriers did survive, the ease of
entry into deregulated markets would act to "police" the market and thus pre-
vent any abuses of monopoly power.
4. Under deregulation, prices and schedules would be unstable. Without doubt
deregulation fares would be less stable than at present. After all, regulation has
virtually precluded price competition. However, rates would not fluctuate broadly.
The reason is that information is a scarce resource and carriers can reduce this
expense and thus attract passengers by keeping such rates relatively stable. The
^'The result was as follows: Domestic fatality rate (pa.ssenper fatalities per 100
million miles flown) =1.76+ (.009X<lomestic industry profit rate). (T-statistic on variable
coeffloient = .2.5 : equation R==.OS.) Data sources: T^.S. Tivil Aeronautics Board. Handhook
of Airline f^tafirticfi: 1971 Edition. Washington. GPO, 1972. p. 554 ; and Caves, ibid., p. S9^.
31 Miller and Dousrlas. ibid., chapter fi. „ ,,
32 See C\B Order 74-3-S2. March 18. 1974. pp. 66-72. Moreover, the Board has recently
enunciated a nolicv of eliminating anv cross-subsidy. (Ibid., p. 68.)
33 Perhaps the replacement carrier is more efficient, or the point is more complementary
to Its route system.
51-146 O - 76
same is true of schedules. An unregulated carrier stands to gain considerable ill
will by not keeping schedules, or, put another way, an unregulated carrier may
gain a good reputation by maintaining published schedules. Certainly the ex-
perience of the intrastate airlines and the commuter airlines is inconsistent
with the prediction of unstable rates and schedules under deregulated condi-
tions.^
APPROACHES TO REGULATORY REFORM
From the prior discussion, it should be apparent that the economic perform-
ance of the domestic airline industry would be significantly enhanced if economic
regulation were liberalized or perhaps eliminated. ISince one cannot predict with
absolute certainty what would happen with complete deregulation, it may not be
feasible to make a total commitment to such a course of action at this time. For-
tunately, there is an approach which appears feasible, which leaves open the
question of ultimate total deregulation, and which we would highly recommend.
That is, we should move smartly in the direction of more liberal regulation ; at the
same time we will gain additional information about the efficiency of total de-
regulation and can make incremental decisions as needed. Such a regulatory re-
form proposal would be consonant with the following principles :
1. Entry. It should be easier for existing carriers to enter new markets and for
new carriers to enter the business. At a minimum, the Board should consider the
effects on economic efficiency of prospective new service when deciding entry
cases. Also, it would be desirable to prohibit the Board from constraining entry
on the grounds that it might adversely affect other carriers.
2. Exit. Cairriers should be allowed to abandon markets where they cannot
cover costs. Otherwise, implicit taxes on other travellers have to support such
services and this is not only questionable as a matter of equity, but it tends to
hide the real cost of serving these markets.
3. Rates. Fares should be flexible so as to allow price competition. One ap-
proach would be to institute a "zone of reasonableness," such as plus or minus
15 percent of existing fares, within which fares would be totally exempt from
regulation.^ Retaining control over maximum and minimum fares thus guards
against the possibility of monopolistic exploitation on the high side and alleged
"cut-throat" competition on the low side. Over time the zone could be widened
to allow for even more price competition, lower fares, and further differentiation
in price-quality offerings.
4. Antitrust immunity. In order to assure that the basic thrust toward less
regulation were not perverted, it would be necessary to limit the Board's power
to grant antitrust immunity. Such a change would affect such things as agree-
ments over fares, pooling of revenues, agreements to control capacity, et cetera.
Not affected would be innocuous relationships such as baggage interchange, joint
reservation facilities, and the like.
5. Subsidy. During an interim period, it might well be desirable to retain the
Board's subsidy program. However, we would suggest that the whole subsidy
mechanism be reexamined in order to determine ways of obtaining more results
from each subsidy dollar, or, alternatively, of reducing the subsidy bill for any
given results.
Legislative proposals for regulatory reform reflecting these principles are now
being considered by the Administration. It is anticipated that the Administration
will recommend to this session of Congress a comprehensive program which, if
enacted, would significantly increase the efficiency of our air transportation sys-
tem and provide consumers with improved transportation services at lower costs.
^ See. for example, Jordan, ibid., chapters 5-10.
35 It is important that this zone be wide enough to allow for meaningful price com-
petition. Also, too narrow a zone would facilitate price collusion. Fifteen percent, plus
and minus, would appear to be a minimal standard.
AIR TRAVEL
(From Economic Report of the President, 1975, G.P.O., pp. 154-5)
In the domestic airline industry, regulation has reserved primarily to bring
about a nonoptimal choice of price and quality. Because the CAB had a
fairly liberal policy during the 1950's and 1960's toward the entry of existing
carriers into city -pair markets, the principal markets are now served by two
or more airlines. However, since their fares are regulated by the CAB, the
airlines tend to complete on the basis of scheduling, over which the Board
does not exercise direct control. The result is "excess capacity," and efforts
to raise the regulated fares in order to assure a return on investment greater
than the industry's perceived cost of capital serve only to set the stage for
further capacity augmentation.
Carriers as a group have consequently tended to earn neither excess profits
nor losses, but the traveling public has paid higher fares because of the
regulation-induced excess capacity. While excess capacity does yield some
benefit in the form of more frequent departures, less crowding, and a better
chance of obtaining a seat on the preferred departure, the value of this excess
capacity is almost surely less than its cost. As evidence, in the relatively un-
regulated California and Texas intrastate markets the competitively deter-
mined higher-load factor service has historically been sold at prices some 40
percent below the prices of comparable interstate, CAB-regulated services. More-
over, a recent study reports that in 1969 domestic air passengers paid "excess
fares" ranging between $366 million and $538 million, for which they received
service quality improvements valued at between $118 and $182 million. The
difference, between $248 million and $356 million, represents a deadweight loss
to society.
In its recent domestic passenger fare investigation, the CAB established
target load factors of 55 percent. Since the prevailing load factors were
around 50 percent, this policy had the effect of reducing excess capacity and
lowering fares. However, it would appear that a much higher load factor
standard is justified especially in view of the recent increa.ses in fuel prices.
The Board's new policy of encouraging agreements among carriers to limit
capacity is not an appropriate way of dealing with this problem. In markets
covered by agreements, the passenger's total cost of service is increased because
of increased delays, but the fare is not reduced.
Airline regulation imposes other costs, which are not generally well per-
ceived. For instance, through the regulatory process, fares have tended to be
set at levels and with a structure that maximizes total seat capacity, as opposed
to maximizing total passenger traffic, the result being added congestion and
environmental costs, as well as increased costs of airports and airways. By re-
stricting the entry of new firms into trunk carrier service in order to protect
less eflScient incumbent firms, regulation has also penalized potentially more
eflScient firms and has resulted in higher fares for a given quality of service.
These costs of airline regulation could be reduced substantially or even
eliminated if entry into and exit from markets were made easier and if
control over fares were liberalized so as to encourage price competition. Under
such circumstances an individual airline could attract more passengers by
lowering its price rather than increasing its total capacity.
(67)
68
Senator Kennedy. Mr. Peck is our next witness, a former member
of the Council of Economic Advisers.
Then Professor Noll, if you would be kind enough— Professor Noll
received his Ph. D. in 1957, was on the senior staff, Council of Eco-
nomic Advisers, through 1973, and senior fellow, and currently pro-
fessor of economics at the California Institute of Technology.
Thomas Moore, would you come up ? Mr. Moore is professor of eco-
nomics, at Stanford University.
Mr. Peck, do you want to start ?
STATEMENTS OF MERTON J. PECK, PROFESSOR OF ECONOMICS,
YALE UNIVERSITY; ROGER G. NOLL, PROFESSOR OF ECONOMICS,
CALIFORNIA INSTITUTE OF TECHNOLOGY; AND THOMAS G.
MOORE, SENIOR FELLOW, THE HOOVER INSTITUTION ON WAR,
REVOLUTION, AND PEACE, STANFORD UNIVERSITY
Mr. Peck. Yes, thank you. Senator.
I have a short statement I would like entered into the record, but I
will not read it. The reason is that the testimony of the previous wit-
nesses from the Department of Transportation, Council of Economic
Advisers, the Federal Trade Commission and the Department of
Justice have made many of my points. To read my statement now
might seem to be preaching to the converted. Much of my statement
would be cumulative.
I would like to indicate, however, that the economic literature in
recent years has made two points: First, regulation is economically
inefficient ; it costs the consumer too much. Second, the solution to this
inefficiency lies, in general, in more competition and less regulation
to provide the consumer additional price and service options.
Those two points were made well, I think, by the preceding wit-
nesses. Looking at their footnotes, I discovered an amazing fact. Peo-
ple do read economists' waitings, and those writings are reflected in
the testimony of the previous witnesses.
I would add three other points. First, we have all observed that
airplanes fly half empty, and the numerous flights reduces waiting
time but raises costs. A Yale student of mine, Michael Pustay, has
calculated the value in reduced waiting time relative to the cost of
more flights. He found that in 1969 the excess capacity flown, if waiting
time is valued at $10 an hour, added about 10 percent to airline fares.
In transcontinental markets, it added even more to the costs. His results
suggest the following conclusion : In 1969, the American airlines were
flying the right number of flights for the $60,000-a-year man, to whom
convenience matters more than cost. Everyone also was offered too
many flights and too high fares.
Now I would like to turn to another point. I think congressional
hearings are a highly desirable forum in which to raise the critical
issue of regulatory reform. You mentioned earlier. Senator, the regu-
latory proceedings themselves as a way to change policy. I have ap-
peared as an expert witness in regulatory proceedings. I have been
impressed with the care and diligence of regulatory officials as well
as their concern with the public interest. But I find the issues are too
narrowly drawn to make regulatory proceedings a good place in which
to examine broad issues.
I would add one final point made in my statement. I recall President
Kennedy's transportation message of 1962, which was a forceful plea
for deregulation. If one heard only the firet day of the hearings on
that message, with witnesses all in favor of it, one would conclude de-
regulation was going to come within a week or two. It turned out that
the first day was not representative, and the legislation that accom-
panied that message did not do well in Congress.
It seemed to me then that President Kennedy's plea for deregula-
tion was good economics. It may even be better economics today.
Senator Kennedy. Professor Noll.
Mr. Noll. Senator, we have engaged in a little bit of collusive be-
havior of our own, and I think it would be more appropriate if Mr.
Moore came before I did.
Mr. MooRE. Thank you. Senator. I would like to summarize my
statement.
My research and other research all on the question of regulation
is going to point to the same thing : regulation produces waste, higher
prices, and often poor service. My research has been in the area of ICC
regulation, regulation of trucking in Europe, regulation of electricity
utility rates by State Commissioners, occupationally sensin^i-, and the
regulation of stock market margin requirements. I might indicate my
study of ICC regulations has indicated in 1968 ICC regulations in-
flicted costs on the American economy in the order of $3.8 to $8.8
billion. Today the figure would be considerably higher
I would like to turn to my experience in v estern Europe, which I
have just come back from, studying the regulations there.
70
I found that regulation has the same pattern there as it does here.
In those countries like West Germany, they have very strict regula-
tions, and prices are much higher, almost 40 percent higher, than in
free market countries.
England, for example, has deregulated trucking entirely, and it il-
lustrated an appropriate one for this hearing because many of the
same points that you were raising this morning and others raised about
deregulation were raised about deregulating trucking. Professor Noll,
who has argued that he would get predatory pricing cutthroat com-
petition, monopolizing, services would disappear to small countries,
safety would decline, but when they deregulated trucking, none of
these things happened, prices did come down, but profits surprisingly
enough were not appreciably affected. Service appeared to improve,
their service to small communities, even in northern parts of Scotland,
were maintained, and in fact improved under deregulation, and the
safet}^ record also improved. That was due partly to some additional
statutes dealing with safety and trucking.
So that none of these things that are alleged to happen happened
there. There is no reason to believe they would happen in the airline
industry.
The second point that I want to make is that regulation as a process
is inherently faulty. There is nothing that you could do, no rewriting
of the statute, no appointment of better commissioners is going to do
more than make marginal improvements. The regulatory process as it
is developed must in fact emphasize the economic liealth of the in-
dustry. The regulators cannot tolerate major firms failing. Your hear-
ings last fall indicated that the CAB was attempting to put a floor
under charters.
Too, as your own report said, to maintain or increase the profit-
ability that Pan Am — let me see — had in order to help Pan Am with
its financial problems.
This is inherent in regulation. Regulation also by its very nature in
a competitive industry often results in the regulated not even getting
the benefits, because price competition which others have talked about
this morning has been eroding.
Roger Xoll is going to elalaorate a little more on this and the prob-
lems with the regulatory policy.
Mr. Noll. Thank you. I, too, as Professor Peck, have a written state-
ment that I do not intend to bore you with in completeness. I have
given a corrected version to professor Breyer which I hope you will
put into tlie record.
Senator Kennedy. Yes. It will be included in the record.
71
Mr. Noll. Since this is in fact a committee on administrative prac-
tices, I would like to focus on the way the administrative practices
operate and what kind of efficiency effects they have.
I think, as judged from the testimony so far here today, economists
and even lawyers and political scientists who have studied regula-
tion have focused too much of their attention on performance of the
industry and too little of their attention on the nature of the process
itself. One is normally faced with a conclusion which says regulation
of the industry is costing us x billion dollars, therefore, let's stop
having fools, and incompetents, and politicians appointed and fix the
whole thing up or they will say let's tinker with the administrative
procedure so the procedure can be made better.
CERTAIN COSTS ARE INTRINSIC TO REGULATION
What I Avould like to give today is a view on why I think this is
a mistaken view. I have known fine men on regulation commissions
who came out after their term simply shaking their heads, not under-
standing why they weren't able to accomplish all the things they
were hoping to accomplish when they went in.
The problem lies in the institution itself. There are a number of
dilemmas in setting up an industry to control market behavior that
are simply unresolvable.
COSTS DUE TO REGULATORY DELAYS
It first arises from incompatability of decisions, that make de-
cisions with staff, that individuals are accorded due process, that
decisions are based upon evidence, and that when someone raises
an issue in a proceeding that is to be accounted for by the person
making the decision.
It is inconceivable the kinds of power to redistribute wealth that
inheres in regulatory institutions would be delegated to any bureau-
cracy without subjecting the decisions to judicial review and without
giving affected individuals the right to plead their cases before
decisionmakers.
To safeguard the rights of individuals against capricious and ar-
bitrary decisions of an agency requires establishing decisionmaking
procedures that normally cause decisions on important issues to be
protracted. This can create serious problems in three types of circum-
stances, when rapid inflation pushed costs up and firms cannot respond
to cost increases by raising prices until a protracted regulatory review
has been completed; when a technological development that would
72
lower costs and improve service quality cannot be fully exploited with-
out regulatory review; and when an innovative new firm seeks to
enter a regulated market but must first win the approval of the regu-
lators. The last two effects significantly reduce the incentive to the
firm to be innovative, since to all the risks and costs of innovation
are added the expense in time and resources of a regulatory proceed-
ing, while the risk of a more innovative competitor capturing a
superior market position is reduced.
COSTS DUE TO NECESSARY BIAS TOWARD THE FEW COMPANIES MOST AFFECTED
The second major dilemma of regulatory institutions reflects the
trade-off between an expensive regulatory process and a process that
is insulated from the individuals affected by its outcomes. In part be-
cause the preservation of accountability and due process through ju-
dicial review makes participation in the regulatory process expensive,
and in part because the vast majority of persons who are affected by
regulatory decisions are not effectively organized to represent them-
selves in regulatory proceedings, the flow of information and proposed
rules to the agency is one-sided. A passive agency that relies upon the
evidence supplied by participants in the process will inevitably make
decisions based upon incomplete assessments of the issues at hand ; an
agency that can generate its own independent flow of information on
every important case will be much more expensive to operate. In fact,
none of the Federal regulatory authorities engaged in price and profit
regulation devotes anywhere near the resources to generating informa-
tion for use in regulatory proceedings that is committed by the indus-
tries they regulate.
An example of what basically happens is that a few well represented
groups, by virtue of the procedure of the agency, get to structure what
the issue will be in the proceeding and they get to provide most of the
information upon which the decisions will be based.
The outcome is best illustrated by the recent debate over the regula-
tion of cable television.
The recent debate over the regulation of cable television is an illus-
trative case in point : The final regulatory rules were worked out by a
coalition of broadcasters, cable system owners and program producers.
While each of these groups cast their arguments defending their own
positions in terms of the beneficial effects a system satisfying them
would have on society at large, and while the FCC devoted some staff
resources to investigating the stake of viewers in the issue, neverthe-
less the final compromise was hammered out exclusively by the well-
represented special interests, and was adopted by the FCC explicitly
because none of the three groups would appeal the compromise, legally
or politically.
73
Senator Kexnedy. Professor Breyer is goin^? to chair this part of
the hearing. I hope vou will continue if that is all right.
Mr. Noll. OK.
These endemic problems of regulation do not necessarily lead to the
conclusion that under no conditions should industry be regulated. All
they imply is that certain inevitable costs are to be expected. Gener-
ally, these costs will be higher because : (1) the sophistication required
to determine the true technical and economic conditions of the industry
is greater, (2) the greater the portion of the effects of regulation that
is diffused over a large, heterogeneous group that is unlikely to be ef-
fectively organized, and (3) the more uncertain and rapidly changing
the economic environment in which the regulated firms operate, such
as is the case during a period of rapid inflation or deepening recession.
The cost of regulation is also likely to be greater the more competi-
tive the regulated industry. This is because entrenched firms are to
some extent protected from competition by the slowness and costs of
procedures that must be followed by new entrants into a market. In
addition, the regulatory forum allows competitive firms to engage in
a far greater degree of collusive behavior than would be permitted in a
normal competitive circumstance. And by exercising some control over
the information flowing to the agencies, while constituting the pri-
mary threat of appeal to the agency's decision, the industry can push
the agency to make policies and adopt rules that enforce cartel-like
behavior upon the firms in the industry. These types of actions — the
mutual service reduction agreements among the airlines that were
promoted by the CAB are good examples — would surely be antitrust
violations in the absence of the protective umbrella of the regulatory
statutes.
The principal conclusion of the preceding remarks is rather straight-
forward : one should keep in mind the costs of regulation when de-
ciding whether to regulate any particular industry, and whether to
continue to regulate an industry that was subjected to regulation when
circumstances were far different from the present. For example, if an
industry becomes increasingly able to support a competitive market
structure as time progresses, the expected costs of regulation will in-
crease while the expected benefits of regulation will decline.
COSTS INCREASED WHERE REGULATOR — LIKE CAB — MUST PROMOTE
INDUSTRY
Presumably the argument for regulation of most industries is more
complex than simply the avoidance of monopolistic practices. In the
case of domestic airlines, regulation has a certain promotional feature,
owing to the effects attributed to an extensive air route structure on
economic development, the distribution of economic activity, and na-
74
tional defense. Without debating the merits of these contentions —
which are, of course, eminently debatable — the issue remains which
policy instrument can most effectively generate the desired route struc-
ture. The difficulty with the regulatory approach is that this explicit
promotional aim gives the regulatory authority an even greater indus-
try orientation than the institutional dilemmas would normally pro-
duce. On the industry's part, promotional, cost-plus regulatory policies
generate overly optimistic investment plans since the incentive for
investment is heightened by the belief by firms that regulators will
act to ameliorate at least some of the financial losses that will be suf-
fered if an investment plan proves too optimistic. On the agency's
part, financial failure of a regulated firm is at best an embarrassment
and at worst a serious problem ; the failure may be attributed to the
decisions of the agency, and, in any event will, at least temporarily,
cause the pattern of service to fall short of the promotional objective
that led the agency to acquiesce to overinvestment in the first place.
The result is a continuing spiral of overly optimistic expansions — too
many new planes flown too frequently over too many routes — followed
by policies propounded by regulators to bail out their charges.
Deregulating a competitive industry will undoubtedly have some
significant adjustment effects. Prices and pi'ofi^^s Avill probably fall,
dramatically so in the short run, some routes will be abandoned or be
subjected to sharp service curtailment, and some firms may face bank-
ruptcy and reorganization. But in the long run, more and better service
and normal profits can be expected, and at reduced prices, as firms
learn to operate more efficiently and as the price system is used as a
signalling device for tailoring service to user tastes.
ALTERNATIVE TO REGULATION OF AIRLINES : DIRECT 8XTBSIDY ALLOCATED BY
COMPETITIVE BIDDING
If the resulting route structure is judged to be somehow unsatisfac-
tory by the political process, competitive bidding for contracts to serve
unprofitable routes or to fly unprofitably large and fast aircraft into
some cities will prove a far more efficient mechanism for promoting
the industry than regulation. The key to the contract alternative is
its reliance on the natural forces of competition in all markets, includ-
ing the subsidized ones. Even if Congress desires to promote a more
developed route structure than the competitive market would yield
but without paying subsidies from general revenues — a circumstance
which plausibly suggests that a subsidy should not be paid in any
75
event — an explicit intraindustry transfer, retaininj^ the competitive
market structure, is still feasible. Subsidized routes could be jfinanced
by a tax on airline tickets, for example.
Economists, myself included, blanch at most any proposal to
engage in Government promotion of an industry, especially when
financed by the profitable activities of the industry. Such cross-sub-
sidization extracts its own costs in terms of efficiency of the economic
system, and these are not trivial. But the point remains that the econ-
omists' arguments for unregulated competitive industry inevitably
penetrates costs but provides no benefits, except that in the short run
existing firms in the industry that have overinvested in response to
perverse regulatory incentives experience losses when the protective
shield of regulation is removed. The efficient way to promote an in-
dustry, or to force it is to respond to considerations not normally re-
flected in the marketplace, to do so directly through taxes, subsidies,
and performance standards tied specifically to the policy concern of
the Government.
Mr. Breyer. Thank you very much.
What we are trying to do is in part generate a debate, and I would
like to know your views, and that will be helpful to develop questions
with other people to testify.
First of all. I know you teach in this field, and I take it you are not
experts in airline regulation, but you do read the things written both
from the industry point of view and from other points of view ; and
you feel that you have an ability to compare the trucking regulation
with a whole host of other regulations.
CONSENSUS AMONG ECONOMISTS
Is there any sort of consensus among economists on the question of
air regulations ? I have noticed a lot of economic issues. There are as
many views as political points of view. Democratic economists say one
tiling, and Republican economists say another. Are people pretty much
in agreement, or is it a political thing even among economists?
Mr. Peck. I would think there is a general consensus among econo-
mists that airline regulation is not economically efficient. I tried to look
for defenses by industry scholars of the present regulatory processes
by independent scholars for my courses, and the search has been in
vain.
It seems to me there is an emerging consensus in economic writings
that regulation no longer serves the public interest. Since there are
76
25,000 economists in the country, and we speak for three, there is ob-
viously going to be a diversity of views, but less than other economic
views.
Mr. MooRE. I would like to add that I was at the President's eco-
nomic summit, and I put forward at that summit a package of 22 steps,
mainly which dealt with regulation, several of which dealt with CAB
regulation in particular. At that meeting there were 23 economists,
many liberal Democrats, many conservative Kepublicans, some of the
best known names in the profession.
Of the 23 people there, 21 endorsed the package or at least the gen-
eral gist of the package, which was antiregulation. One of the persons
did not just think it was irrelevant in connection with inflation, so that
gives me some idea.
Mr. Noll. When I spent 3 years at Brookings I was codirector of a
service of research projects on regulation. Approximately 25 projects
were undertaken, the political complexion of the researchers varied
from the extreme right to the extreme left. All of the Federal regula-
tions were studied in some detail and particularly the Civil Aero-
nautics Board were studied separately, some in the Republican coun-
cil of economic advisers and some on the Democratic council of
economic advisers.
They found out it was costing to the tune of several billion dollars
a year. Economists are justifiably often criticized for failure to reach
consensus on major policy, and in most instances that is right, that thoy
are not people who do in fact reach consensus easily.
On the other hand, the nice thing about being a student of industrial
organization and regulation is that you can get along with your col-
leagues, because you never have to run the risk of being dead wrong
and saying regiilation has been foolish in a particular sector. I know
of no major industrial scholarly work by an economist or political
scientist or lawyer in the last 10 years that reaches the conclusion that
a particular industry would operate less efficiently and less equitably
than with regulation. The conclusion is unanimous. None outside of
the industry organizations themselves seriously contend that regula-
tion is serving the consumers, or has a serious, positive benefit.
TRANSITION TO DEREGULATION
Mr. Breyer. Are the economists, even with this consensus, suffi-
ciently sensitive to what undoubtedly are very real problems the in-
dustry has? If in fact you had deregulation, isn't there a risk you
would end up putting a lot of companies out of business ? If they don't
77
make profits, they won't be in business. Is not there some kind of real
risk that despite consensus in the classroom, out in the real world
deregulation means you will force airlines out of business and end up
with significantly worse services ?
Mr. Noll. I think as a characterization of the transition phenome-
non, there is a lot to be said for it. Why does it like to be regulated ?
The answer is quite simple. Ever since 1938, 36 years, almost 37 years,
the industry has made investment decisions, routing decisions, on the
basis of the assumptions the industry will be regulated.
The excess capacity of seats is not magically construed out of the
air. So investment plans are put forth on the basis of the assumption
that planes will be flown half empty.
In the transition scenario from the regulated industry to the un-
regulated industry, there are going to be financial difficulties by some
of the firms, not by all of the firms, in the industry. Some of the firms
will prove better able to survive than others. I would expect there
would be bankruptcies, or not bankruptcy, but operating in a deficit.
That is testimony of inefficiency of regulation. The reason there would
be losses is because a whole inefficient industry structure has been
built upon the regulation institution, a lot of decisions have been
made because they are protected by regulation.
Mr. Breyer. Are you saying we will end up with the possibility of
not having an airline industry ?
Mr. Noll. I am not finished yet. The first point to remember is what
financial failure means. It means a lot of managers will be put out of
jobs. The people who are now directing airline companies are directing
because of their sophistication in dealing with regulations. That will
no longer be a talent for which airlines will pay a high salary.
Mr. Breyer. Are you saying that at the end of the line we will have
an airline industry, or that we won't ? Is there a big risk or a little risk ?
Mr. Noll. Airplanes will be there, dift'erent people will own them,
different firms perhaps, different managers of those firms will be in
existence. But the point is as long as you can make money flying peo-
ple from New York to Los Angeles, there will be people and airlines
ready to do that. There will be a transition when the ownership and
the management changes, and the more gradual you make the transi-
tion and the more you compensate the people for the transition, the less
shaken]) there will be.
Mr. Breyer Professor Peck.
Mv. Peck. You have to distinguish between the long run and the
short run.
78
The longrun prospects of an airline industry operating without
regulations is very good. It will be a good industry.
There is the transitional problem which economists have not really
addressed as seriously perhaps as it deserves. It is partly a question
of equity, partly a question of efficiency of a special kind moving to
a new and better competitive situation.
The proposals for tleregulation usually are stated so that they allow
for a transition. One of the witnesses this morning said we would not
deregulate overnight.
But I think the transitional problems are solvable if
Mr. Breyer. Down the road the airline industry would be profitable,
eventually ?
Mr. Peck. That is right.
Mr. Breyer. Why are they so against this then?
Mr. Peck. I am reminded of the remark the best of all monopoly
profits is a quiet life. It may be true of our regulations; people are
used to doing business in a certain way. They are also concerned about
transitional problems. I would be, too, if I were a president of an
airline.
EVIDENCE OF OTHER UNREGULATED INDUSTRIES
Mr. Breyer. You would ask the industry what would happen in
the long run ? You think the problems could be overcome ? Is there any
reason to believe if you have fears of competition, people won't start
cutting back in safety and we won't have a lot of unsafe planes flying
around? Don't you have to worry about people cutting back on seat-
belts or oxygen masks ?
Mr. Noll. If it would be profitable for them to do it in an unregu-
lated environment, if there were evidence there would be planes falling
out of the skies like California and Texas.
Mr. Breyer. You mean historically they are not regulated to the
same extent in California and Texas, is that your point ?
Mr. Noll. That is my point.
Mr. Breyer. They are regulated from the point of view of safety.
Mr. Noll. That is right.
Mr. Breyer. But they don't have fare regulations to the same extent.
Mr. Noll. Yes.
Mr. INIoore. British deregulation of trucking, the same problem of
transition came up, and if you face the transition over enough period
of time and do it appropriately you can minimize it. There will still
be these transitional costs, and that is Avhy the airline fears it, but in
the \on<r run the industry will perform — —
Mr. Breyer. Trucking was deregulated in England, and the net re-
sult was the firms were just as profitable ?
Mr. Moore. Just as profitable as they were before, and they were
not in fact highway safety improved, and prices came down.
79
DESTRUCTIVE COMPETITION"
Mr. Breyer. There are a couple — I am just g:etting rather quick
answers, I know — but there are a couple of things that concern me.
People are generally concerned whether in an unregulated environ-
ment you would discover destructive competition. Again and again
that argument is made. Is there any reason to think you would not have
destructive competition, such tremendous fare competition that in fact
one airline ch'ives everybody out of business or they all go under and
you end up without service. What is the risk of that happening?
Mr. Noll. That is an extremely difficult question to answer briefly.
Here are a few kinds of responses to it. No. 1, it is not obvious that
will ever hap])en, historically, in any industry that did not have a scale
economies, which is to say if there exists an industry where there are
no true economies gained to being a monopoly, it is much cheaper to
merge than to try to force the other guy to go bankrupt. Historically,
in industries where unregulated competition has prevailed I do not
know of a single instance where that has happened.
Second, in the unregulated markets — or the markets that at least
for a time were unregulated — this has not happened. PSA is not an
airline running business losses to the point of doing in big companies
like United.
Another point is that antitrust laws do exist, and one of the clearest
prohibitions in the antitrust laws is predatory price cutting, that is
cutting prices, low costs to drive somebody else out of business and
then raise costs. There will always be that route.
Finally, in the case of the airline industry, even if in the short run
someone could, if airline A could drive airline B out of a given market,
as soon as the price went back up the airline would be able to jump
right in. Airlines will not disappear from the face of the Earth. There
will always be airplanes you can use to enter the market again.
So unless a price cutter is to have his price be below cost forever he
will not find it in his interest to engage in such behavior.
Mr. MooRE. Pan Am and TWA offer charter service to Europe and
have not driven other charters out of business. They have complained
about the competition in these smaller firms.
The same point was made by trucking. There is no expense in
England with predatory pricing and monopoly. It just does not occur.
Mr. Breyer. I think that is fine.
[The prepared statements of Messrs. Peck, Moore, and Noll follow :]
Prepared Statement of Merton J; Peck, Professor of Economics,
Yale University
regulatory reform of the civil aeronautics board
I am pleased to have the opportunity to appear before you. My specialty is the
economics of regulation, and for the past two decades I have taught courses
80
and published on this subject. In 1968 I served as a member of the Council of
Economic Advisers, with responsibility for regulatory policy. I have not, how-
ever, written on the airline industry. My comments will be based on my general
knowledge of regulatory policy.
In 1970, an MIT economist, Paul Maaivoy, edited a book which he called
The Crisis of Regulatory Commissions.^ At the time I thought the title an un-
seemly one, since the custom in academia is for colorless and somewhat pedantic
titles. But I now think that Professor MacAvoy was right; there is a crisis in
the regulatory commissions.
In recent years, economists have been almost uniformly critical of Federal
regulatory commissions. Indeed, I have sought for my courses recent scholarly
publications that find some good in present policies. The search has been in
vain. The uncharitable might say I have not looked diligently enough, but it
seems to me that there is an emerging consensus in economic writings that
regulation no longer serves the public interest. A review of these writings leads
me to make three points :
1. Regulation is frequently very costly to the American public.
2. Regulation ought, in general, to be reduced. We would be better off with
less regulation and more competition.
3. Congressional hearings on Federal regulatory policies such as those initiated
here are needed.
1. Regulation is generally very costly to the American public
Several recent studies have shown that the costs of regulation in terms of
economic efficiency are substantial." And for airlines, we have all taken trips
with practically empty airplanes, and yet airline fares keep climbing.
A Yale doctoral student of mine, Michael Pustay, has attempted to quantify
such casual observations.^ There are two factors which he recognized in his
calculations. More flights mean shorter waiting times. That is worth something,
and so Dr. Pustay put a valuation on reductions in waiting time. More flights
also mean higher costs, and Pustay used the CAB costing formula to estimate
those added costs. Pustay applied his technique to 289 city-pairs for 1969. For
each city-pair he used a model developed by another economist, George Douglas,
to establish the optimal number of flights, recognizing both the costs of added
flights and the savings in waiting time. He then estimated the net cost of having
more daily flights from the optimal number.
Pustay's results are striking. If waiting time is valued at $10.00 an hour, the
added costs in 1969 were $4.56 million annually, about 9 percent of airline fares
at that time.* Of course, if waiting time is valued at more per hour, then more
flights become economically justified. Even at $20.00 an hour the excess costs
were $273 million annually. Pustay's results suggest that American airlines in
1969 were flying the right amount of flights for the $60,000 a year man. Everyone
else was being offered too many flights and too high fares."
1 Paul W. MacAvoy (ed), The Crisis of Regulatory Commissions. W. W. Norton Company,
1970.
2 Studies for surface transportation are reviewed in Lee I. Sparling. "Rate Regulation
and Freiglit Traffic Allocation, A Review and Revision," Social Science Working Paper,
#68, California Institute of Technology, 1974. For a study of the costs of regulation in
television, see Roper Noll. ^Terton J. Peck, and John J. McGowan, Economic Aspects of
Television Regulation (Brookings Institution 1973).
^ Michael W. Pustay, The Effects of Regulation on Resource Allocation in the Domestic
Trunk Airline Industry, Yale Doctoral Dissertation, 1973.
* Ibid., p. 117.
^ Note that Pustay's results are for over-supplied city-pairs ; there were other smaller
markets that had too few flights. George W. Douglas and James C. Miller used a some-
what different approach and estimated the costs of excess capacity in 1969 as ^R66 million
at a $10 per hour valuation of waiting time. See Economics of Regulation Domestic Air
Transport (Brookings Institution, 1974) p. 172.
81
For particular city-pairs, the added costs are more striking. Chicago to Los
Angeles is an example. Pustay calculated that if waiting time were valued at
$10.00 per hour, the optimal number of daily flights would have been 20 with
a 73 percent load factor. In fact, in 1969 there were 30 flights and a 49 percent
load factor. The actual fare was $106. If there had been an optimal load factor,
the cost per passenger would have been $50."
Pustay's results have several limitations. The approach may over-value wait-
ing time. It is a market-by-market analysis and some excess capacity may be
justified because an aircraft serves several city-pairs. The calculations are for
1969 ; since then load factors have improved somewhat.
Still, the magnitudes of Pustay's results are so large that they clearly support
what common sense suggests. Flying planes half empty is not good economics.
2. Regulation ought to be lessened and more relianee plaeed on competition.
These added costs are likely the result of regulatory policies. Regulatory com-
missions have been loathe to see price competition emerge. At the same time
regulated firms, like other American businesses, have been eager to expand their
market shares. With price comi)etition tabu, the competitive rivalry is chan-
nelled into service competition. That often takes the form of adding capacity
to provide more frequent service which in turn raises costs. The higher costs
as they spread to the industry generally can then become the basis for a request
for a rate increase.
One solution is regulation of capacity, but the better solution may be in the
opposite direction — to allow more price competition. Consumers should have the
choice between service and price that unregulated markets generally provide.
And there seems no better way to ensure such choice than through allowing
price competition.
3. Congressional hearing on the Federal regulatory policies are very much needed.
Congressional hearings are a highly desirable forum in which to raise the
critical issues of regulatory reform. I have appeared as an expert witness in
regulatory proceedings. I have been impressed with the care and diligence of
regulatory oflicials as well as their concern with the public interest. But usually
the issues are narrowly drawn and there is no occasion to raise broader issues
as, for example, the desirability of more price competition.
Congress now has a full agenda of pressing problems. One should not urge
adding another one lightly. But regulation seems badly askew ; there is a regu-
latory crisis. Inflation and rising energy prices appear to have made existing
regulatory policies even more expensive to the public. And many regulated firms
themselves are often in trouble, from Pan Am to the Penn Central.
I would add, however, Mr. Chairman, that tlie issue of regulatory reform is
not a new one. President Kennedy's Transportation Message of 1962 was a force-
ful plea for deregulation. The Kennedy message called for "greater reliance on
the forces of competition and less reliance on the restraints of regulation." '
The legislation that accompanied that message did not fare well in Congress.
And yet it seems to me that President Kennedy's plea for deregulation was good
economics then ; it may be even better economics today.
° Pustay, op. cit. p. 123.
■^ Quoted in Ann F. Priedlander. The Dilemma of Freight Transportation, Brookings
Institution, 1970, p. vii.
51-146 O - 76 - pt. 1
82
Prepared Statement of Thomas G. Moore, Senior Fbxlow, The Hoover Institu-
tion ON War, Revolution, and Peace, Stanford University
THE REGULATORY REFORM OF THE CIVIL AERONAUTICS BOARD
It is a great honor and privilege to be here today to give my views on this
important topic. This subcommittee must be commended for leading the way in
exploring a vital topic — regulatory reform.
As you know, next year marks the 200th anniversary for the founding of this
great Nation. It also marks the 200th anniversary of the publication of one of
the world's greatest books, The Wealth of Nations. I would like to take the
text for my statement today from Adam Smith's opus. While he wrote in 1776,
it is still true today that :
No regulation of commerce can increase the quaiftity of industry in any
society beyond what its capital can maintain. It can only divert a part of it
into a direction into which it might not otherwise have gone; and it is by
no means certain that this artificial direction is likely to be more ad-
vantageous to the society than that into which it would have gone of its
own accord.
Adam Smith understated the case. My research and that of others show that
regulation produces wastes, higher prices, and often poorer service. My work
has covered ICC regulation of surface freight transportation, the regulation of
trucking in Europe, the regulation of electric utilities by state commissions,
occupational licensing, and the regulation of stock market margin requirements.
As a result of these studies and the studies of others it is possible to draw
some conclusions about regulation as a whole. Regulation's main effect is to in-
crease the cost of the product or service offered ; normally consumers will have
to pay higher prices ; even the regulated gain little.
Transportation regulation, which I have been studying in recent years, is
particularly relevant to the topic of these hearings. I found in studying the
regulation of surface freight transportation by the Interstate Commerce Com-
mission that it had increased the cost to our country of moving our goods between
$3.8 and $8.8 billion in 1968. The cost today with inflation is obviously
much higher. This cost stems from ICC efforts to insure that each of the firms
under its control is profitable. In order to insure profitability of even ineflacient
firms, the ICC restricts competition by attempting to give each firm a limited
market that few if any other firms my serve. In order to restrict competition
firms are often granted authority to carry goods from one part of the country to
another but without authority to carry goods on the back haul. Route restrictions
have forced trucking firms to drive hundreds of miles out of their way or not
offer a through service between points they are authorized to serve.
I have just returned from studying regulation of trucking in Europe. West
Germany has the most strict regulation in Europe, controlling both rates and
trucking capacity. Trucking rates in West Germany in 1973 were over 50 percent
higher than in Great Britain which has no economic regulation whatsoever.
But interestingly enough profits appear to be as high or higher in the uncontrolled
British situation than in West Germany.
Economic theory and some evidence have shown that regulation of utilities
tends to inflate costs. Becau.se regulators permit firms to earn a certain rate of
profit on their investment, regulated utilities have a tendency to substitute capi-
tal, which goes into their rate ba.se, for labor. This means that they can earn
larger profits although costs of production as well as utility rates will be higher.
My own research indicates that utility rate regulation has not appreciably re-
83
duced rates below what the firms would charge in the absence of such regulation.
Under some plausible assumptions rates are actually higher for electric utilities
than they would be if there were no controls.
The problem is that regulation as a process is inherently faulty. No rewriting
of the regulatory statutes or appointment of better regulators can do more than
make some minor improvements in a bad situation. There are a number of reasons
why regulation is inherently faulty, some of which I will touch on, others will be
discussed in more depth by my colleague this morning, Roger Noll.
I would like to emphasize the compulsion of each regulator to protect his par-
ticular industry. In some cases the act establishing the regulation makes specific
the need to promote the health of the industry. For example the Civil Aeronautics
Act specifies in Title I that :
In the exercise and performance of its powers and duties under this Act,
the Board shall consider the following * * * as being in the public inter-
est * * * (a) The encouragement and development of an air-transportation
system * * * (b) The regulation of air-transportation in such manner as
to * * * foster sound economic conditions in, such transportation * * *.
Given that mandate how can the CAB idly stand by while Pan American fails?
It can't. In 1974 the CAB approved four rate increases for international opera-
tions to bail out Pan Am and TWA.
i^ailure of a major company regulated by an agency is considered to be a
failure of that regulatory agency. But under a few market system, both the
carrot and the stick are needed. Failure is necessary to force firms to meet the
needs of the public. Even where an act establi>hing a regulatory commission
does not specify that a prosperous industry is important, regulators will believe
that unless the regulated firms earn profits they will be unable to serve their
customers. Thus the regulators will consider it their duty to the public and to
consumers to make the industry profitable and one of the most efficient ways to
accomplish that is to reduce competition.
Your committee in hearings last fall investigated a clear example of the tend-
ency of regulation to restrict competition. As your excellent staff report brought
out, the CAB was attempting to set minimum charter fares to I'educe competi-
tion. To quote from your report, such minimum rates were sought "in order to
help Pan American with its financial problems."
Prohibiting regulators from restricting competition in order to protect com-
petitors won't work. The Congress in the Transportation Act of 1958, wrote a
clear prohibition on protecting one mode from competition of another, yet the
ICC has continued to do just that. Protecting competitors and reducing competi-
tion is inherent in all economic regulation.
In inherently competitive industries such as airlines and trucking it is vir-
tually impossible for the regulators to eliminate competition. The best the regu-
lators can do is to eliminate price comi>etition and thus to hold prices up. But
this simply stimulates firms to compete in non-price areas. A few years ago the
international airlines engaged in a sandwich war to attract passengers. More
recently in the U.S. we have witnessed a seating war, with airlines competing to
offer the most comfortable .seats in coach class. Last fall there was a free drink
war. Since rates are identical due to CAB regulation, airlines compete by pur-
chasing the most up-to-date equipment and phasing out older and slower equip-
ment long before it would be obsolete under a more rational system. No scheme
of regulation that permits management to manage the firms can eliminate non-
price competition. There are an infinite number of ways firms can compete. As a
84
result of the non-price competition, most of the profits originally generated by
high rates are dissipated.
In adtiition to the inevitability of non-price competition, which tends to erode
the profits that the regulators are attempting to guarantee he industry, the firms
compete for regulatory favors. If a route to Hawaii or Florida is profitable, firms
can and will spend millions in legal fees and legal maneuvers attempting to win
the franchise or to block others from securing the franchise. For example, sup-
pose that a firm is earning one million in clear profits a year from a route. It is
then worth spending up to a million a year to block the introduction of competi-
tors. To the would-be comi>etitor it may be worth half a million if he enters. As
a result the potential entrant will be willing to spend large sums to secure a
license, perhaps as much as two and a half million dollars. The entire profit on
such a route can be dissipated in this competition for licenses.
In many ways regulation is the worst of all worlds for everyone. While the
regulators try to guarantee profits, non-price competition and legal competition
work to eliminate the profits. Consumers pay high prices but the regulated firms
don't reap the benefits. Costs are inflated ; profits are no greater than they would
be without regulation ; and prices are higher.
Prepared Statement of Roger G. Noll, Professor of Economics, California
Institute of Technology
the causes of regulatory failures
During the past 15 years an impressive literature has developed in economics,
law and political science evaluating the performance of regulatory agencies.
To an extent uncharacteristic of academic research, this literature is remark-
ably consistent in its principal finding. Most scholars of public policies toward
business have come to believe that public utility regulation — the control of
prices, profits, service quality and the entry and exit of firms from the industry —
is an exceptionally costly, ineffective instrument of government policy. Numerous
studies published in the last few years have identified gross inefficiencies and
inequities in the key sectors subject to regulation — transportation, communica-
tions, energy — that can be traced to seemingly nonsensical rules and policies of
regulatory agencies.
The purpose of my statement is not to discuss in detail the findings of these
research studies, since many of the authors of such studies will be heard at
these hearings. Instead, this statement deals with the causes of regulatory fail-
ures, with the purpose being to contribute to the dialog about the possible mecha-
nisms for reforming or replacing regulatory institutions.
In establishing institutions to control the market activities of private firms,
government is faced with two dilemmas. These dilemmas are probably unresolv-
able, and thereby guarantee that the agency will impose serious social costs if it
tries to do the job for which it was created.
The first dilemma arises from the incompatibility of structuring a decision
process that is "fair", e.g., decisionmakers are accountable for their actions,
individuals are accorded due process, etc., and that makes decisions with dis-
patch. It is inconceivable that the kinds of power to redistribute wealth that
85
inheres in regulatory institutions would be delegated to any bureaucracy with-
out subjecting the decisions to judicial review and without giving affected in-
dividuals the right to plead their cases before decisionmakers.
To safeguard the rights of individuals against capricious and arbitrary de-
cisions of an agency requires establishing decisionmaking procedures that
normally cause decisions on important issues to be protracted. This can create
serious problems in three types of circumstances : when rapid inflation pushes
costs up and firms can not respond to cost increases by raising prices until a
protracted regulatory review has been completed, when a technological develop-
ment that would lower costs and improve service quality can not be fully ex-
ploited without regulatory review, and when an innovative new firm seeks to
enter a regulated market but must first win the approval of the regulators.
The last two effects significantly reduce the incentive to the firm to be innovative,
since to all the risk and costs of innovation are added the expense in time and
resources of a regulatory proceeding, while the risk of a more innovative com-
petitor capturing a superior market position is reduced.
The second major dilemma of regulatory institutions reflects the trade-off be-
tween an expensive regulatory process and a process that is insulated from the
individuals affected by its outcomes. In part because the preservation of account-
ability and due process through judicial review makes participation in the regu-
latory process expensive, and in part because the vast majority of persons who
are affected by regulatory decisions are not eft'ectively organized to represent
themselves in regulatory proceedings, the flow of information and proposed rules
to the agency is one-sided. A passive agency that relies upon the evidence supplied
by participants in the process will inevitably make decisions based upon incom-
plete as^sessments of the issues at hand ; an agency that can generate its own,
independent flow of information on every important case will be much more ex-
pensive to operate. In fact, none of the federal regulatory authorities engaged in
price and profit regulation devotes anywhere near the resources to generating
information for use in regulatory proceedings that is committed by the industries
they regulate.
The recent debate over the regulation of cable television is an illustrative case
in point : the final regulatory rules were worked out by a coalition of broadcasters,
cable system owners and program producers. While each of these groups cast
their arguments defending their own positions in terms of the beneficial effects a
system sati.«fying them would have on society at large, and while the FCC devoted
some staff resources to investigating the stake of viewers in the issue, nevertheless
the final comi)romise was hammered out exclusively by the well-represented
special interests, and was adopted by the FCC explicitly because none of the
three groups would appeal the compromise, legally or politically.
These endemic problems of regulation do not necessarily lead to the conclusion
that under no conditions should industry be regulated. All that they imply is that
certain inevitable costs are to be expected. Generally, these costs will be higher if :
1) the sophistication required to determine the true technical and economic condi-
tions of the industry is greater, 2) the greater the iX)rtion of the effects of regula-
tion that is diffused over a large, heterogeneous group that is unlikely to be effec-
tively organized, and 3) the more uncertain and rapidly changing the economic
environment in which the regulated firms operate, such as is the case during
a period of rapid inflation or deepening recession.
The cost of regulation is also likely to be greater the more competitive the regu-
lated industry. This is because entrenched firms are to some extent protected from
competition by the slowness and costs of procedures that must be followed by
new entrants into a market. In addition, the regulatory forum allows competitive
firms to engage in a far greater degree of collusive behavior than would be
permitted in a normal competitive circumstance. And by exercising some control
over the information flowing to the agencies, while constituting the primary
threat of appeal to the agency's decision, the industry can push the agency to make
policies and adopt rules that enforce cartel-like behavior upon the firms in the
industry. These type of actions — the mutual service reduction agreements among
the airlines that were promoted by the CAB are good examples — would surely be
antitrust violations in the absence of the protective umbrella of the regulatory
statutes.
The principal conclusion of the preceding remarks is rather straightforward :
one should keep in mind the costs of regulation when deciding whether to regulate
any particular industry, and whether to continue to regulate an industry that was
subjected to regulation when circumstances were far different from the present.
For example, if an industry becomes increasingly able to support a competitive
market structure as time progresses, the expected costs of regulation will increase
while the expected benefits of regulation will decline.
Presumably the argument for regulation of most industries is more complex
than simply the avoidance of monopolistic practices. In the case of domestic air-
lines, regulation has a certain promotional feature, owing to the affects at-
tributed to an extensive air route structure on economic development, the dis-
tribution of economic activity, and national defense. "Without debating the merits
of these contentions — which are, of course, eminently debatable — the issue re-
mains which policy instrument can most effectively generate the desired route
structure. The diflBculty with the regulatory approach is that this explicit pro-
motional aim gives the regulatory authority an even greater industry-orientation
than the institutional dilemmas would normally produce. On the industry's part,
promotional, cost-plus regulatory policies generate overly optimistic investment
plans since the incentive for investment is heightened by the belief by firms that
regulators will act to ameliorate at least some of the financial losses that will
be suffered if an investment plan proves too optimistic. On the agency's part, fi-
nancial failure of a regulated firm is at best an embarrassment and at worst a
serious problem : the failure may be attributed to the decisions of the agency,
and. in any event, will, at least temporarily, cause the pattern of service to fall
short of the promotional objective that led the agency to acquiesce to overinvest-
ment in the first place. The result is a continuing spiral of overly optimistic
expansions — too many new planes flown too frequently over too many routes —
followed by policies propounded by regulators to bail out their charges.
Deregulating a competitive industry will undoubtedly have some significant ad-
justment effects. Prices and profits will probably fall, dramatically so in the short
run, some routes will be abandoned or be subjected to sharp service curtailments,
and some firms may face bankruptcy and reorganization. But in the long run,
more and better service and normal profits can be expected and at reduced prices,
as firms learn to operate more efficiently and as the price system is used as a
signaling device for tailoring service to user tastes.
If the resulting route structure is judged to be somehow unsatisfactory by the
political process, competitive bidding for contracts to serve unprofitable routes
87
or to fly unprofitably large and fast aircraft into some cities will prove a far
more efficient mechanism for promoting the industry than regulation. The key
to the contract alternative is its reliance on the natural forces of competition in
all markets, including the subsidized ones. Even if Congress desires to promote a
more developed route structure than the competitive market would yield but
without paying subsidies from general revenues — a circumstance which plausibly
suggests that a subsidy should not be paid in any event — an explicit intraindustry
transfer, retaining the competitive market structure, is still feasible and subsi-
dized routes could be financed by a tax on airline tickets, for example.
Economists (myself included) blanch at most any proposal to engage in gov-
ernment promotion of an industry, especially when financed by the profitable
activities of the industry. Such "cross-subsidization" extracts its own costs in
terms of efl!iciency of the economic system, and these are not trivial. But the
point remains that the economists' arguments for unregulated competition are not
dependent upon their position on cross-subsidization, and the two issues should
not be confused. Regulating a competitive industry inevitably generates costs but
provides no benefits, except that in the short run existing firms in the industry
that have overinvested in response to perverse regulatory incentives experience
losses when the protective shield of regulation is removed. The efl^cient way to
promote an industry, or to force it to respond to considerations not normally re-
flected in the marketplace, is to do so directly through taxes, subsidies and per-
formance standards tied specifically to the policy concern of the government.
Mr. Breyer. I think it will be 2:30 when we reconvene this
afternoon.
[Whereupon the subcommittee adjourned at 1 :25 p.m., to recon-
vene at 2:30 p.m. that same day.]
AFTERNOON SESSION
Senator Kennedy. The subcommittee will come to order.
Our next witness is Mr. Alfred Kahn, chairman of the Public
Service Commission, State of New York, who taught economics at
Yale University and served as a senior staff member of the economic
advisers, and is presently on leave from Cornell University. He has
written extensively in the area of economic regulation.
Mr. Kahn.
STATEMENT OF ALFRED E. KAHN, CHAIRMAN, NEW YORK STATE
PUBLIC SERVICE COMMISSION
Mr. Kahn. I am very honored by your invitation to testify here.
I have been asked to hold my testimony to 10 minutes, which means
I will have to talk terribly fast. I will make no effort to read my
statement.
88
I hope I am not here under false pretenses. I have been a student of
economic reguLition for some time and now a practitioner, but I am
not an expert on the airline industry and do not presume to come to
you with explicit reconunendations.
There are certain common tendencies and patterns in regulation,
however, which I would like to bring to your attention. In fact. I will
make four points which may be illuminating to you. at least 10 minutes
worth. If you try to follow my statement you would not succeed.
KEGULATIOX IS AX IMPERFECT IXSTITUTIOX
First, it is a commonplace observation that regulation is a very im-
perfect institution. I think it is essential where competition is not feasi-
ble, and of course that is where I happen to operate, in Xew York State,
that is to say where competition is inconsistent with economies of scale.
But it cannot do what competition does. It cannot innovate. It cannot
force companies to be efficient. It cannot force management to be enter-
prising. It cannot make companies risk their own capital. So regulation
has an inevitable large element of cost-plus in it with all the familiar
deficiencies of such arrangements.
REGrLATIOX IS AXTITHETICAL TO COMPETITIOX
Point Xo. "2 : Although there are many ways in which it makes sense
to try to introduce competition into a regulated system, still funda-
mental competition and regulation are antithetical.
I think, possibly the airline industry performs better than it would
by virtue of the presence of some competition in it. But fundamentally,
there is something inherent in regulation that makes it hostile to
competition.
By the way. this has nothing to do with honesty or corruption or
irresponsibility of regulatoi-s. It has to do with the fact that under
competition nobody is responsible for supply, no single firm has an
obligation to serve. The protection of consumers, the assurance of sup-
ply comes from the impersonal functioning of the competitive market.
In a regulatory situation, in contrast, we rely on chosen instruments,
identifiable firms and the i-egulator himself.
As a result, I. as chairman of the Public Service Commission of
New York, feel a kind of direct pei-sonal responsibility for seeing
to it that lights will go on in 19S5 when people flick on the switches.
That means" that I have to be very solicitious of the financial health
of those chosen instrument companies. Similarly, every i-esponsible
airline regulator will undoubtedly tell you that he has an enonnous
responsibility for the continuation of ample, safe, and economical air
89
service. That inevitably produces a distrust of price competition. It
is a nuisance, a threat to the financial health of the chosen instruments.
Competitive innovations may suddenly render obsolete a whole bunch
of equipment. Competitors have an inherent tendency, in the words of
regulators and regulatees, to skim the cream off the market, which is
only to say they tend to go in naturally where prices are high, and
they stay out where costs are high relative to price. So the regulator
will ask you how they are supposed to supply continued service in
bad weather as well as good, in the winter as well as the sununer, over
lightly-traveled as well as heavily-traveled routes, if competitors are
allowed to come in and skim off the cream off the profitable operations
that support the unprofitable. So, to a regulator, competition is a
nuisance.
This means that where you are dealing with an industry that is
structurally competitive — the brokerage business on security ex-
changes, trucking — regulation typically involves cartelization. It
means holding prices up, not down, it means preserving market shares
of existing firms. Now, that is a distinction not often made. Ask your-
self when you look at a particular instance of regulation : Is it f imc-
tioning to keep price down, which I think is my job in Xew York
State, or to keep prices from falling, which often happens in trans-
portation ? Or again, is it trying to hold the quality of service up, or
is it trying to hold service competition down, as I think you will find
in the airline industry. That is my second point. There is a basic
antithesis here. You have to choose.
REGULATION PRODUCES CARTELIZATION AND INEFFICIENCY
No. 3, in these structurally competitive situations, regulation and the
cartelization that goes with it, it is terribly inefficient in terms of
producing at the lowest possible cost. In some ways, it is the worst of
all possible worlds. It is worse than single-firm monopoly ; it is worse
than competition, no matter how imperfect competition is.
It is hostile to letting business go into the most efficient firms.
Instead, it tries to preserve the market shares of all firms, high-cost
and low-cost. Think of the ICC and its limitations on competition by
the railroads, often when they can reach out and take business at a
lower incremental cost, not letting them do so. Think of the proration-
ing of crude oil. To the extent they cut back output, they did not cut
back equally, but instead they imposed stringent controls on the low-
cost wells, at the extreme of holding them down to 8 days of produc-
tion a month, and exempted the high-cost marginal producers. They
had higher quotas for deep wells, because they were more costly.
90
Cartels encourage inefficiency in another way. If you hold price up,
it induces people to try to expand capacity. Inside tne cartel, by drill-
ing additional oil weils or scheduling more flights, or outside the
cartel, look what is happening in the oil industry today. The result
is, if the cartel is going to lunction, it has to cut back output more and
more, so that everybody operates at an inefficient level of capacity.
That is my third point : Cartelization tends to be terribly inefficient.
Before getting to my fourth point, I would like to explain the
simple economics of why cartels produce inefficiency. I will do so
in the form of a series of propositions, but with enough illustra-
tions to demonstrate that I am talking about the real world. If regula-
tion limits competition, it must be because some competition would
otherwise be feasible: Ability and will to compete are therefore
present. And if the regulation is effective, it will hold price above
the costs of at least some producers or potential producers. I have
already described how this sets up persistent temptations for firms
already inside the cartel to expand their capacity and output, and
for firms outside the market, and possibly outside the boundaries of
the cartel, to enter, increasing the aggregate capacity hanging over
the market and creating the necessity for progressive cutbacks of out-
put quotas, if the price is to be sustained. These temptations cease
only when output is so curtailed, and unit costs of production so
increased, by the production cutbacks that entry and investment in
new capacity are no longer attractive.
REGULATION INDUCES EXCESS PRICE AND SERVICE TO THE EXTENT THAT THE
INDUSTRY IS NATURALLY COMPETITIVE
For exactly the same reasons, and this is my fourth point : Controls
over price competition are subject to evasion because of the incentive
they provide for accentuated quality and service rivalry, limited only
by the ingenuity of businessmen in seeking new methods of enticing
customers to them. I do not have to cite you the airline examples of
that, the strenuous competition, instead of via price, in adopting the
most modern equipment, in the frequency in which they schedule
their flights, in attractive hostesses, in-flight entertainment, food and
drink.
Let me state the general underlying principle: If regulation or
cartelization prevent price from falling to costs, then, to the extent
that competition continues to prevail, it will tend to raise cost to the
level of price.
91
One of the most flagrant examples of this — and it is a liistorical
one — I do not know wlietlier it represents CAB policy today — was
the refusal of the CAB to let carriers with older piston equipment
reduce their rates sufficiently below the level for jet fares to keep that
piston equipment in service as long as economically justified. Carriers
asked the CAB to let them reduce those rates, the CAB said no it
would not permit them. Now, if the prices are kept equal, then of
course nobody is going to go on a piston craft.
What is wrong with service competition of this sort? Surely in
some degree it is obviously desirable. The more flights you have sched-
uled the more convenient it is. What is wrong with it, is that cus-
tomers, if you do not have price competition, are not given a choice,
and so you have no way of knowing whether your quality competition
is excessive. The only way of testing whether the increment of in-
service quality involved, for example, in more intensive scheduling is
worth the higher cost, is to offer shippers or travelers the choice be-
tween lower rates and less frequent operations, on the one hand, and
higher rates to cover the costs of more frequent scheduling, on the
other. The same flights that provide no food, drink, or entertainment,
on the one hand, and sumptuous flights, on the other, and as many
other combinations as feasible in between.
In my paper I refer to the same tendency in the security brokerage
business. They compete in salesmanship, and free advice. Wliat about
the fellow who says I do not want salesmanship, I just want to con-
summate a transaction ?
That, of course, is what competition does, it off'ers you such choices.
Now, in these circumstances, it is understandable that regulators have
constantly to spread the net of their regulation. If they can raise
prices, then people want to expand output, so they have to control out-
put. If they do that, they find it attracts new firms into the market, and
then they have to keep firms out of the market. If they do that and
still hold the price up, and find this attracts imports, then they have
to put quotas on inputs. If they prevent price competition, and firms
escape it by engaging in destructive quality competition, then they
find themselves forced to put a lid on quality competition, too.
All these tendencies of regulation in a structurally competitive in-
dustry inescapably raise the question of whether it would not be pref-
erable simply to abandon economic regulation, and open the field to
competition.
Did I make it in 10 minutes ?
92
THE GENERAL CONDITIONS OF DESTRrCTI^^R COMPETITION
Senator Kennedy. What about the other side of the coin, though,
what about the destructive competition? Don't we have the most elab-
orate service of air transportation in the world, and probably the
safest? That is certainly woiih something to the traveling consumer.
How can we be so sure that if you allow competition you will not get
destructive competition and uncertainty and unrealiability ?
Mr. Kahn. Those are real questions which explain my qualification
at the beginning, I am not going to be able to give you decisive
answers. But I do have a few suggestions of places to look.
First, no businessman protected from competition ever believes com-
petition is anything but destructive. In the same way, he does not
use the word "competitor" he uses "chiseler."
Second, there are conditions which are conducive to destructive com-
petition, and you have to see if they apply in this case. Where you
have very heavy capital costs, or enormous economies of scale such
that marginal costs are typically Avay below average costs you will
have a tendency for competition to drive rates down to that level.
You will want to look and see whether that is really true in this in-
dustry. Third, is capital immobile? Once it is there, does it tend to
get stuck and not be able to get out ?
Well, in trucking, of which I have a greater knowledge, I emphasize
that trucks are very mobile, they can move from one market to the
next. Moreover, a large part of your costs are variable; so prices can-
not go down very far. If you can move, especially with transporta-
tion equipment, you can move to another market, competition in any
market cannot be destructive.
Fourth, is entry likely to be excessive? Well, I am very skeptical
that you will have rapid entry into airline mai'kets. It is not an easy
thing, where you have product ditferentiation in these markets and
the attractiveness of known brands, I am skeptical of that.
Look at some areas where you have unregulated com])etition. You
have probably heard the story of California and Texas. I would look
very carefully at those instances. It appears they have effective com-
petition, and it is not destructive.
Senator Kennedy. Do you think it would be useful to have some-
body on the regulatory commission who is an economist?
Mr. Kahn. Why I think it would be marvelous. No, I really be-
lieve that. Senator Kennedy. It is amazing to me how few econo-
mists there are. I think it mijrht be fatal if thev are all economists.
There is a perspective that an economist brings that is very important.
An economist tends to think in terms of benefits versus costs, and every
decision we make in our society today is a benefit-cost measurement,
whether we like it or not.
Senator Kennedy. Thanks very much. I hope you make your plane.
It was very interesting and very helpful.
[The prepared statement of Mr. Kahn follows :]
Prepared Statement of Alfred C. Kahn, Chairman, New York State Public
Service Commission
I am honored by your invitation to testify before your subcommittee on the
reguhition of tlie airline industry. I trust I do not appear here under false pre-
tenses. I have for many years been a student of the economics of regulation, and
now find myself a practitioner, but I do not consider myself sufficiently expert
on the airline industry to presume to give you specific recommendations about
how it should be regulated, or whether it should be regulated at all.
And yet, whi.e it is true that each regulated industry is in some degree unique
and the policy with respect to it must be designed in the light of its own peculiar
characteristics, it is also true that regulation manifests certain tendencies and
raises certain problems common to all industries. I hope therefore that, by de-
scribing to you those general tendencies and problems that seem to me particularly
pertinent to airlines, I may be of help to you in your effort to assess the system
of regulation that we apply to that industry today in the United States.
The first observation I would like to make is that competition and the kind of
regulation we practice in the public utility industries — and that is the only kind
of regulation I am concerned with in this testimony ^ — are inherently antithetical.
While the choice between these two control mechanisms is rarely absolute, as I
will point out presently, society typically must in each individual instance choose
whether to rely on regulation or on competition to protect the public interest ; it
cannot typically have both. It is commonplace that direct regulation becomes
necessary where competition is not feasible; regulation is imposed because
competition is throuiiht to be ineffective. And it is now also commonplace that
regulation has a strong inherent tendency, in turn, to control and eliminate com-
petition that would otlierwise prevail.
This is so not only for the superficial reason that regulation, by definition,
typically involves the imposition of limitations on competitive entry and inde-
pendent competitive action in the determination of price. It is also because regu-
1 Government influences the functioning of the economy generally in a wide variety of
ways, for example, by repulating the supply and availability of money, enforcinp: contracts,
providing subsidies or tariff jirotection, prohibiting unfair competition, imposing standards
for packaging and product contents, licensing entrants into various trades and professions
on the basis of qualifications, .-ind in the case of airlines, licensing pilots and imposing
various other rules in the interest of safety. But all of these instances of regulation, at
least in principle, are intended not to supplant the competitive market as the principal
instrument of social control, but to supplement it to remove its imperfections, in theory
to make it work better. The regulation thnt I am concerned with in this testimony is the
kind that is practiced in the public utility sectors of the economy, and in considerable
measure in civil aviation, and lias as its central purpose the direct prescription of ind'istrial
structure and performance, by such devices as restricting entry into the market to the
number that some government commission determines is desirable and imposing on the
certificated firms an obligation to serve all customers under reasonable conditions, directly
fi.xing price, and prescribing the quality and conditions of service.
94
lation tends iuherently to place a heavy emphasis on protecting the companies it
is also supposed to be controlling. I do not mean here to repeat the vulgar popular
notion that regulators are typically "in the pockets of the utility companies," and
somehow untrue to the public interest that has been entrusted to them, though
there are undoubtedly many examples of this. The tendency is one that will
inevitably affect also honorable and dedicated public servants.
The reason is this : Under competition, in principle, no government oflScial and
no single company is responsible for the continuity of supply ; no company has
an obligation to serve. The consumer's protection comes from the impersonal
functioning of the competitive market itself, from the rivalry among companies,
from the fact or threat of competitive entry. Regulation, instead, relies on chosen
instruments. A specific company is given a franchise ; and that company and the
regulating agency, instead of the market itself, bear the direct responsibility for
serving and protecting the public. That responsibility weighs heavily on the reg-
ulator. I feel some direct, personal responsibility for seeing to it that the lights
will still go on when people in New York flick their switches in 1985. Since it
takes six to twelve years to install new base-load generating capacity. I have to
be concerned about the ability of the franchised electric companies in my State
to begin taking the steps today that will assure that result a decade from now.
And that means, to complete the explanation, that I have to be solicitous of the
financial health of those chosen instruments. So every responsible airline regula-
tor, similarly, will emphasize his heavy responsibility for the continued provision
of ample, safe, and economical air service in every part of the country.
And that responsibility, in turn, inevitably breeds a distrust of competition.
Price competition, particularly in times of excess capacity, is a threat to the
financial health of the chosen instrument company. Competitive innovations, intro-
duced without restraint, may suddenly render obsolete the utility company's
investment in as yet in completely depreciated equipment, leaving the residual
of depreciation somehow to be recovered from its other customers, if it is to retain
the financial health and ability to attract the capital necessary to provide con-
tinued service. Competitors have an inherent tendency, in the words of regulators
and regulatees, to skim the cream off the market — which is only to say, very
roughly, to compete for business where prices are far above costs, and to leave to
the chosen instruments the markets where costs are far above price. How, the
regulated company and regulator will protest, are they supposed to provide con-
tinued service in bad weather as well as good, in the winter as well as in the
summer, over lightly-traveled as well as heavily-traveled routes, if competitors
are to be free to come in and skim off the profits from the latter that have been
financing service on the former? To the regulator, then, competition is disruptive
and threatening, it interferes with orderly planning, it upsets stable markets ; it
is something to be restricted, confined, prohibited.
You will not need my help in seeing manifestations of this tendency in the air-
line industry.
This does not mean that competition has no useful role to play in regulated
industries. On the contrary. Regulated monopoly is a very imperfect institution.
The authority of the regulatory commission is essentially negative ; at best, it
serves only as a check on the exercise of private monopoly power ; prevents exces-
sive profits and excessive discrimination. It is extremely diflScult for it to take
major initiatives. A regulator cannot risk his own capital, and the 14th amend-
ment puts severe limits on his ability to force the companies under his supervision
to risk theirs. He cannot force a company to be progressive, to innovate, indeed,
even to be efiicient. He cannot do what a good management can do, and there
is very little he can do about what poor management does. In short, he cannot
supply the dynamic stimulus that in other industries is supplied by competition.
95
There is, therefore, a very respectable body of opinion that regulation really
has very little eftect. This view merges with the other, which I have already
characterized, that regulators tend, almost inevitably, to associate their concep-
tion of the public interest with that of the companies they are supposed to be
regulating, typically protecting them against competition and supplying no alter-
native effective stimulus. Paradoxically, according to this view, regulation has the
greatest eftect in areas, like transportation, where competition could otherwise
prevail, and there, because of its tenuencies to protectionism and cartelization,
it tends to do a great deal of harm ; and elsewhere, in the presence of monopoly,
its effects are not discernible.
For these reasons, where it can be permitted without intolerable loss of efficiency
competition can play a very useful supplementary role even in the most tightly
regulated industries. In my judgment, for example, while the basic intercon-
nected, national communications network is probably something like a natural
monopoly, competition can and should play an important role in the manufactur-
ing industry that supplies equipment for attachment to that network at the sub-
scriber's end. Similarly, I believe that such competition as we have permitted
in the passenger airline business has, on balance, improved its performance.
Still, to return to my first major point : because of the inherent conflicts and
contradictions between competition on the one hand and regulation on the other,
and because of the inherent tendencies of regulation toward conservatism, pro-
tectionism, and cartelization. society must periodically reexamine the premises
on the basis of which it decided to impose on the public utility status of an
industry, and consider whether a return to essentially unregulated competition
might not be preferable, as this Committee is doing today. This is especially
important in those industries, like transportation, where a competitive struc-
ture may well be feasible — that is, consistent with the individual suppliers
achieving most or all of the available economies of scale. Transportation is
not a natural monopoly. It is precisely in such situation that it becomes essen-
tial for us periodically to ask whether regulations may not be doing more harm
than good. In my own judgment, transportation is the leading example of an
area in which a substantial dose of dereguation, and perhaps something close
to complete deregulation, is long overdue.
In the rest of these comments, I will suggest to you why I think this kind of
reevaluation is particularly necessary in an industry like airline transportation.
Before doing so, I should like to emphasize that competition in the real world
is also a very imperfect institution. Consumers are rarely adequately informed
about the choices available to them, and as a result the competitive advantage
often goes to the more effective saleman, or the less scrupulous advertiser, rather
than the most efficient producer or the seller who gives the best value for the
dollar. The greater the number of independent suppliers, the more likely mistakes
are to be made, and capital committed to ventures that should never have been
undertaken. Competition is often wasteful, and produces instability and uncer-
tainty. But most of us regard the competitive market in much the same way as
we regard democracy — it is a manifestly inefficient system that is better than any
available alternative. To the extent competition is imperfect, our preferred remedy
is to try to diminish its imperfections, rather than to supplant it with monopoly
or socialized enterprise.
But public utility-type regulation in industries that are potentially and struc-
turally competitive tends to produce the worst economic results of all — worse
than regulated, franchised single-form monopoly, on the one hand, and worse
than unregulated competition, with all its possible wastes and imperfections, on
the other. There are so far two major reasons, and both spring from the fact that
in industries of this kind, of which transportation is the leading example, regu-
96
lation specifically involves preventing, controlling and limiting competition —
restricting competitive entry, and prohibiting rivalry in price and service — in
brief, to use the proper term, it involves cartelization.
In principle, a cartel need be no less efficient than a pure monopoly. Single-
firm monopoly has both the incentive and the opportunity to produce at minimum
cost, to take fullest possible advantage of economies of scale, to adopt the most
efficient technology, to limit capacity to the amount required to supply the market
at minimum cost, to concentrate production in the lowest-cost plants, and to
operate them at the most efficient rates. In theory a cartel could do all these
things, too, producing the cartel-determined output at minimum cost, pooling,
the industry's profits, maximized in this fashion, and distributing them according
to some formula among the cartel partners.
But no cartel in history, regulated or unregulated, has to my knowledge ever
done these things. The typical practice, instead, is to maintain price by imposing
output quotas on the several members, efficient and inefficient alike. Indeed,
where cartels have been in a position to make distim tions, they have regulated
production more often by cutting back the output of the lowest-cost producers
than the other way around, in order to leave room in the market for the higher-
cost firms, whom competition would otherwise have driven out of business. The
result has been gross inefficiency in production. We have had the abundant ex-
amples of this phenomenon among regulated cartels. Parity price supports in
agriculture were accompanied by the imposition of acreage limitations across the
board. In petroleum prorationing, production allowables were cut back, at their
lowest point, to eight days a month for the typically highest-volume and lowest-
cost wells, while exempted from all such restraints were the highest-cost, low-
volume marginal or stripper wells, and deeper wells were typically granted larger
production quotas than shallow wells, precisely because they were higher-cost !
And in transportation, the Interstate Commerce Commission has placed limita-
tions on the ability of railroads, by cutting rates, to reach out for traffic that
they were in a position to serve at lower incremental costs than competing
trucks or barges.
Moreover, cartels have been typically incapable of imposing full controls on
investment and entry. By holding prices at non-competitive levels, instead, they
have tended to encourage new competitive entry, particularly, in areas outside
their control ; and where they have succeeded in restricting entry, they have
typically been incompletely successful in restricting the making of additional in-
vestments by firms already in the market — for example, the drilling of grossly
excessive numbers of developmental wells in the oil industry, in quest of addi-
tional production quotas. Maintaining prices in the face of these artifically
stimulated increases in production capacity has in turn necessitated further cut-
backs in output quotas, foi'cing producers in turn to operate at even more grossly
suboptimal levels, with correspondingly higher co.sts, and further preventing the
distribution of the business to the lowest-co.st suppliers. In these important ways,
cartels foster inefficiencies far more gross than either single-firm monopoly or
unregulated competition.
The resulting inefficiencies are in no sense purely theoretical. The wastes in
tran.sportation, for example, have been estimated as running to billions of dollars
annually ; and the wastes of excessive developmental oil well drilling in the
late 1950's and early 1960's in this country were estimated by knowledgeable
industry sources as running on the order of $V2 billion a year.
Second, and for exactly the same reason, cartels promote waste in another
way that is particularly pertinent to the airline industry, by encouraging ex-
cessive non-price competition or service rivalry.
Perhaps the simplest way of explaining this is to set forth the economics that
underlie both of these two tendencies toward inefficiency. I will do so in the form
of a series of propositions, but then I will give you enough illustrations to demon-
strate that I am talking about the real world. If regulation limits competition,
it must be because some competition would otherwise be feasible : the ability and
will to compete are therefore present. And if the regulation is effective, it will
hold price above the costs of at least some producers or potential producers. I
have already described how this sets up persistent temptations for firms already
inside the cartel to expand their capacity and output, and for firms outside the
market, and possibly outside tlie boundaries of the cartel, to enter, increasing
the aggregate capacity hanging over the market and creating the necessity for
97
progressive cutbacks of output quotas if the price is to be sustained. These
temptations cease only when output is so curtailed, and unit costs of production
so increased, by the production cutbacks that entry and investment in new
capacity are no longer attractive.
For exactly the same reasons, controls over price competition are subject to
evasion because of the incentive they provide for accentuated quality and service
rivalry, limited only by the ingenuity of businessmen in seeking new methods of
enticing customers to them at the attractive, cartel-sustained price levels. Denied
the opportunity to compete by reducing price, they are induced instead to compete
for business in other ways that increase costs.
The point is that if competition is sufficiently strong potentially to drive price
down to cost — and that is the reason for the regulatory restraints being imposed
on competition in tlie first place — it will also ordinarily be sufficiently strong to
induce supplers, confronting a price above costs, to seek other, non-price methods
of producing additional sales.
Please observe carefully the general principle ; it is an important one : If regu-
lation or cartelization prevent price from falling to costs, then, to the extent that
competition continues to prevail, it will tend to raise cost to the level of price.
This tendency toward accentuated non-price competition is of course not con-
fined to the regulated or cartelized industries. On the contrary, and for similar
reasons, it tends to take place also in non-regulated industries tliat are sufficiently
concentrated to avoid price competition — witness, for example, the practice of
frequent and often functionally meaningless but nevertheless cost-inflating model
changes in automobiles and appliances, and the heavy expenditures on adver-
tising and other forms of product differentiation across a wide spectrum of
oligopolistic industries.
But there are striking examples in the regulated sector. The Interstate Com-
merce Commission is not permitted, under the Motor Carriers Act, to place limi-
tations on the amount of equipment and facilities or the schedules put into effect
by certificated tru.kers; but it does restrict the entry of common carriers, and
it does control prices. The consequence is a tendency, well-documented in the
literature, for regulated trucking companies to compete by offering greater
frequency of service, at the cost of lower average utilization of capacity.
Similarly, the maintenance of non-competitive brokerage commission rates by
the New York Stock Exchange has encouraged brokers to engage in cost-inflating
methods of service competition — the payment of large commissions to salesmen,
and the offering of costly customer services in the form of free advice and re-
search, in addition to the basic service, which is the consummation of trans-
actions in securities.
In the airline industry, the requisite cartelization is achieved by the CAB
restrictions on competitive entry, the resultant fewness of competing firms along
particular routes, and the rather consistent discouragement of competitive rate
reductions and special, promotional rates by the Civil Aeronautics Board,
domestically, and by the International Air Transport Association. As a result,
as anyone can observe, the airline companies compete very strenuously, instead,
in adopting the most modern and attractive eq,uipment, in the frequency with
which they schedule fiights, in advertising, and in providing comfort, attractive
hostesses, in-flight entertainment, food and drink.
In turn — reflecting an almost inevitable tendency for regulation to become
ever more thorough and pervasive in structurally competitive situations, because
of tlie necessity for controlling whatever new forms of rivalry ingenious com-
petitors and potentail competitors devise — the CAB and the lATA have been
forced to try to control this service rivalry as well. Price regulation alone is
obviou.sly meaningless, if quality of service goes unregulated. In the more mono-
polistic, traditional public utility industries, where regulation has had the prin-
cipal purpose of holding prices and profits down, commissions have found it
essential to regulate quality of service as well as price : the consumer can be
just as effectively exploited by deteriorations in the former as by increases in
the latter. So, in these more structurally comi^titive markets, where regulation
has been introduced principally to prevent competition from driving price down,
commissions have had to recognize that the service competition that pushes
costs up can be almost as "destructive" as unrestricted price rivalry — witness,
for example, the disastrous impact of competitive scheduling of flights on air-
line load factors, costs and profits.
51-146 O - 76 - pt.
And so we have had the unedifying experience of the CAB and lATA imjwsing
restrictions on the provision of free drinks, the size ana sumptuousuess of meals,
the amount of space between seats, authorizing concerted reductions in the
scheduling of flights, and requiring a uniform supplementary charge for in-flight
motion pictures.
One particularly troublesome way in which the government-imi)osed restric-
tions on price competition have encouraged cost-inflation in this industry has
been the general refusal of the CAB to permit carriers with older, inferior
equipment to set substantially lower rates in order to preserve their market
shares in the face of the introduction of newer equipment. Since, when the
prices are equal, the customer will obviously prefer the faster and more com-
modious jet to the slower piston aircraft, the refusal of the Board to permit a
substantially lower fare for the latter created an irresistible temptation on the
part of carriers to scrap the older equipment and introduce the newer as rapidly
as possible, as Professor Richard Caves has pointed out. And this has indeed
been a conscious policy of the Board, in keeping with its statutory mandate to
promote the utilization of airline transportation.
This last example clearly invites the obvious question : what is wrong with
service rivalry of this kind? Isn't it desirable to encourage airlines to shift
rapidly to newer, faster and more attractive equipment? Doesn't more frequent
scheduling mean better service, because it means a traveler has a correspondingly
greater certainty of being able to get a flight at any time that he wants it?
What is wrong with having a financially healthy security brokerage business,
enabled by the restrictions on price competition to provide investors with the
benefits of research and advice, at no extra charge, and providing brokerage
service in small and remote localities where it might otherwise be unprofitable?
Effective competition surely does require constant efforts at product and service
quality improvement.
The only answer an economist can give is that the proper balance between
service and price rivalry can only be determined, in a market economy, by sub-
jecting the alternatives to a market test. The proper prescription is to give
consumers the opportunity to choose between the two alternatives, the faster jet
aircraft at a price reflecting the higher cost of its introduction, and the slower
but still serviceable piston aircraft, at whatever rates down to operating costs
are necessary to keep them utilized as well. This does not mean that old equip-
ment should not at some point be scrapped. But so long as customers will
patronize it at rates that exceed the variable costs of operating it, it continues
to have economic value as well as physical serviceability ; and any policy that
prevents dropping that price down toward variable costs, and thereby provides
customers no incentive to keep using the old, promotes premature and wasteful
scrapping, and correspondingly wastefuUy rapid introduction of the new.
The only way of testing whether the increment in service quality consequent
on more intensive scheduling is worth the higher cost it entails is to offer shippers
or travelers the choice between lower rates and less frequent operations, on the
one hand, and the high rates required to cover the costs of more frequent sched-
uling, on the other. The same is true of flights that on the one hand provide
minimum leg room, and no food, drink, or entertainment, and sumptuous flights,
on the other, and as many quality combinations as feasible between these two
extremes, all at prices reflecting the respective costs of providing them.
Similarly for the security brokers : only if investors are offered the choice
between the barebones service of consummating security purchases and sales, at
a price corresponding to the cost of doing just that, on the one hand, and, on the
other, the execution of orders plus salesmanship, plus advice, plus research will the
market provide the economically optimum quantity of both. So long as the
customer pays the same price for both of these packages, there will be an in-
herent tendency to wasteful and cost-inflating service rivalry. And that, it clearly
appears, is what has happened in the airline industry.
The objection is not necessarily that airlines have been forced by their com-
petition fo inrnr creater costs for denser schedules, more advertising, meals, and
in-flight entertainment than they would if they were able to get together and
restrict such expenditures. Tlie ob.iection i«, rather, that these cost-inflating
service improvements have not been subjected to the test of having to compete
with lower-cost lower-price alternatives. The defect, in short, has not been the
.service competition, as such, but the inadequate play of price competition along
with it. In point of historical fact, the airline industr.v — as well as trucking, and
the security brokerage business — offers numerous evidences that price competi-
tion will, if given a chance, hold service inflation in check. Witness the popular-
ity of the more Spartan non-scheduled passenger service, the desertion of regular
security brokers by large investors, and the wholesale desertion by shippers
from common carrier to private trucking wherever they had the opportunity
to do so.
In these circumstances, the attempts of the regulators to limit service rivalry
are entirely logical. But that still has the effect of limiting the range of cus-
tomer choices. And it inescapably rai.«es the question of whether it would not be
preferable simply to abandon economic regulation plus cartelization in favor of
the freer play of price competition.
Senator Kexnkdy. Our final witness is Dr. George James, senior
vice president of economics and finance, Air Transport Association.
He has spent much time analyzing economic trends and problems of
the association, problems on behavior of the member airlines, and di-
recting the operations of the Economic Finance Council. Dr. James is
a member of f he Conference of Business and American Economic Asso-
ciation, university guest lecturer and currently serves on the Doctorial
Dissertation Association of American University.
We are glad to have you.
STATEMENT OF DR. GEORGE W. JAMES, SENIOR VICE PRESIDENT
OF ECONOMICS AND FINANCE, AIR TRANSPORT ASSOCIATION OF
AMERICA, ACCOMPANIED BY JAMES LANDRY AND GABRIEL
PHILLIPS
Dr. James. Thank you, Mr. Chairman.
I am accompanied by Mr. James Landry and Mr. Gabriel Phillips.
I have submitted a lengthy statement which I will not read, but I
do have a summary which I will read but I request the more lengthy
testimony be included in the record.
Senator Kennedy. It will be included in the record.
Dr. James. I find it enlightening to hear the testimony we have just
heard from Professor Kahn. I have many smart friends who have
been educated under Professor Kahn.
I must say, however, that after listening to what I heard this morn-
ing from all of the other witnesses that I have never been exposed to
such incorrect economics in the airline industry except 9 years ago
when I first came into the business myself. I think it is terribly impor-
tant to have the exposure to the industry and understanding of it
before you can really understand the practical implications of some of
the proposals that have been made and to have a more full understand-
ing of why so many of our witnesses are stumbling on questions that
you are asking on what the effects of deregulation would be.
Well, as you stated on December 16, Senator Kennedy, the basic
objective of airline regulation is adequate service at reasonable prices.
We believe airline regulation has met that test. Nevertheless, we be-
lieve that consideration by this subcommittee and others of the issue of
regulatory reform presents opportunities not only for thorough review
of the existing structure and procedures, but more important, for
seekmg improvements in regulation. These improvements can lead to
an even more effective and responsive public air transportation system.
100
The more extensive statement we have submitted to this subcom-
mittee, under separate cover, deals with the concept of re^ilated com-
petition in air transportation, with the objectives we understand are
sought through regulatory reform investigations, with the achieve-
ments of regTilated competition in the air transportation industry since
1938, and with the likely adverse impacts of many of the concepts of
regulatory reform that are being proposed. Our statement also makes
recommendations for some improvements in present air transport
regulation.
I would noAv like to summarize the principal points made in our
statement.
ADVANTAGES OF REGULATED COMPETITION
The system of air transportation, since its inception as an effective
force in the American economy in 1938, has been founded on the prin-
ciple of regulated competition. This has been necessary because of the
special position of public transportation in the economy. In the spec-
trum of economic activity, from a natural monopoly to perfect compe-
tition, transportation falls in between.
It is unlike specific public utilities in which embedded costs are im-
mense and therefore economies of scale are apparent. But because of
the need and value of providing a public service to a vast interlinking
network of cities and communities, air transportation cannot be placed
in the so-called perfect or workable competitive environment either.
Further, it has characteristics that under deregulation would quickly
lead to a high degree of concentration. These characteristics include
the complexity of aircraft operations, the increasing expense of indi-
vidual aircraft, the need for extensive maintenance facilities, and the
fact that an inordinately high percentage of the passenger markets are
between points of low traffic density.
The present national air transportation system is characterized by
stability, speed, reliability, and above all a vast network of the inter-
locking air routes involving 58,000 city-pairs. Its value to the Nation
and to the public is derived from all of these essential features which
would be seriously <!ompromised, if not lost, through deregulation.
We believe it is essential that in the deliberations today, and in
those which will follow, special care should be taken to ensure that
it is the real world of air transportation which is the subject of
scrutiny. Hypothetical models alone — based as they are, not on the
actual demonstrated needs of the traveling and shipping public, but
rather on theories applicable only in an insulated theoretical environ-
ment— may be helpful as a guide to thinking. But their application
beyond the classroom or the textbook must be carefully considered in
the light of existing, real circumstances.
Senator Kennedy. How do you say that ; what is the basis of that
statement ?
Dr. James. I do not be-ieve anybody was recognizing that we have
58,000 city-pairs, a stable environment in which that system is now
operating, that we have met the test of keeping prices down, that we
have a system built in through the Civil Aeronautics Board now in
which the consumer interests are being represented and the prices
that we might seek are being penalized by the fact that we may not
be meeting certain of those standards, and many other points that I
101
will bring out in my testimony in answer to your question in a
moment.
Senator Kennedy. Why would not the Department of Transporta-
tion understand that ?
POTENTIAL ABANDONMENT OF SMALL TOWN SERVICE (CROSS-SUBSIDY)
Dr. James, The Department of Transportation, through the sub-
missions they made and the Domestic Passenger Fare Investigation,
was not taking as what I would consider a practical position regarding
load factors, load factor standards, and the realities of service to this
58,000 network that we now serve. The implications contained in
many of the submissions they made would have the load factors and
load factor standards beginning abnormally high, and the only way
to accomplish this would be to cut out service to many. of the com-
munities now serviced, thousands of them, as a matter of fact.
Senator Kennedy. Can you submit a list of which ones that would
be?
Dr. James. Of the communities ?
Senator Kennedy. Yes.
Dr. James. We can attempt to do that, Senator, That is a com-
puterized answer that we would have to develop, and would involve
millions of calculations. It is a difficult thing to obtain, and we would
have to obtain it.
Senator Kennedy. How can you be sure that you know and the
Department of Transportation does not know ?
Dr. James. I know the size of the problem and that is what we are
attempting to define.
Senator Kennedy. I have asked you for specific testimony since you
have discredited the witnesses, saying they were speaking through their
hat. That is a gracious way of putting it. Then, I asked you the basis
of it and you say they do not understand this particular problem. I ask
you the basis for your information and you say you have not got it.
"You supply it and I will ask the Department of Transportation to do
the same thing. Let the record speak for itself,
Dr, James. Let me put it this way. Senator. What we have is aggre-
gate information, and what you are asking for is detailed information.
The aggregate information (s that if we Avere to attempt to get to a 65-
percent load factor today we would have to cut 25 percent off of these
58,000 city-pairs. I understand your question to be which of the 58,000
would be cut.
Senator Kennedy. That is right.
Dr. James. We have nothing that far. We have gone as far as to say
one-fourth of them would be cut. I do not believe the Department of
Transportation has thought of it in those terms, sir.
Senator Kennedy. Well, I will ask them the same question, to submit
information, as I am asking you, so if you can supply information on
that and be as specific as possible I wiU ask them the same question.
[In a letter dated February 7, 1975, the chairman of the subcommittee
made more explicit his request of Dr. James for a list of routes t:hat
would be eliminated under the conditions discussed above. On April 3,
1975, the Air Transport Association submitted its reply which totaled
more than 200 pages. The chairman then requested independent eval-
102
uations of this ATA study from five leading economists and several
Government agencies. The ATA study and the evaluations, together
with relevant correspondence, are printed at the end of Dr. James' pre-
pared statement following his testimony of this day, p. 189 ff., below.]
Senator Kennedy. Let us continue.
RELATIVE DECREASE IN AIR FARES SINCE 19 38
Dr. James. The objectives sought by the theorists or the critics of
the present system have been accomplished in a regulated competitive
environment. Those who have found fault with the regulatory environ-
ment in which air transportation now operates seek to achieve a lauda-
tory goal : air transportation service at minimum and cost-based prices,
providing a maximum efficient quality of service. We believe we have
accomplished that goal.
Today average scheduled airline passenger fares, in 1938 dollars, are
64 percent less than 37 years ago, when Congress passed the Civil
Aeronautics Act. Moreover, if one wishes to switch to current dollar
comparisons, from 1948 to 1974 the air fare between New York and
San Francisco rose 21 percent. At the same time the price of a pound
of roundsteak increased 100 percent, a pair of men's shoes 120 percent,
a Chevrolet automobile 220 percent, and, though perhaps not com-
monly purchased, a year's tuition at Harvard over 640 percent.
Air freight rates have similarly experienced a decline relative to
costs of all U.S. goods and services in the period 1946-1974.
Senator Kennedy. With all due respect, what has that possibly got
to do with it? Television has gone down, the cost of radio has gone
down, wristwatches have gone down. So what sense does that particular
comment make — how does that prove your thesis ? I can give as many
examples as you have given that have gone the other way. I am not an
expert in this, but
Dr. James. The only point I am making, Senator, for every one you
can give I can give one above the average. We are standing with a
small group of services and products which have actually declined
in this time period. We are 64 percent below the average, so obviously
there are larger numbers that have gone up than have gone down rela-
tive to our performance.
Senator Kennedy. Maybe that is convincing to some people, but
what we do not know without competition is how much further it
would have gone down. I would think that would have been the im-
portant question. If this is satisfactory to you as an explanation we
will be glad to receive it.
Dr. James. We also can compare ourselves with consumer price
index and the wholesale price index, and we will have outperformed
those.
REGULATED AND UNREGULATED FARES COMPARED
Senator Kennedy. I do not suppose you could mention that the PSA
has gone down further than you have, or Texas, so therefore they
demonstrate
Dr. James. Senator, I think PSA would be delighted to say that,
but they cannot. From 1967-1973 their i^rices went up 23 percent.
Ours went up 17 percent. Since 1973, PSA has increased their prices
25 percent and is applying for 10.5 percent more. Since 1973, our gen-
eral fares are up 15 percent. Our price record against PSA is very
competitive and we beat them.
Senator Kennedy. Which makes the point that competition does
not make much
Dr. James. They are probably within a i^-cent yield away
i'rom our average, and we have three or four fares that we offer today
that are less than what PSA offers on a yield basis.
Senator Kennedy. Well, the fares, as I understand, are close to half
the price.
Dr. James. They are not, sir. Their yields are close to 6 cents a mile
and ours are running close to 7 cents a mile, including the charges
that have just been made.
Senator Kennedy. Well, give me, just to clarify for a layman, what
the fare is from San Francisco to Los Angeles for CAB regulated
and then the PSA.
Dr. James. Well, I see the frame of reference in which you are
speaking.
Senator Kennedy. Can you answer that question for me ?
Dr. James. I have the airline guide here and I can probably pull out
that fare for you, if you wish.
Senator Kennedy. OK.
Dr. James. The yields I am quoting to you are the average of all of
our fares against PSA. If you would like I would also like to elaborate
on that in a moment as to the differences of the kind of service that
PSA is offering and the different cost against our own carriers. I can
do that if you wish while we are attempting to find
Senator Kennedy. The point that I was making is, I did not under-
stand the relevancy of the increase in Harvard's tuition, and then we
got diverted on this other situation, so whatever you like, we will just
put those in the record and you can continue.
Dr. James. Senator, there is a specti-um of fares on that route be-
tween Los Angeles and San Francisco. PSA, for example, has a fare
$20.25. TWA has a fare for $19.50. Air West has a fare for $18.37,
Continental $17.
Senator Kennedy. Are those the intrastate passengers ?
Dr. James. Between Los Angeles and San Francisco, yes.
Senator Kennedy. Those are traveling intrastate, right ?
Dr. James. Yes.
Senator Kennedy. Say someone took a plane from Boston, San
Francisco, Los Angeles, what would be the cost of the San Francisco-
Los Angeles rates ?
Dr. James. Those would be larger.
Senator Kennedy. Give me those.
Dr. James. I will submit that for the record later. I do not have it
with me at this time.
Senator Kennedy. Well, it must be in the airline guide. You are the
experts on it.
You can continue in your testimony.
Dr. James. All right, sir.
Senator Kennedy. Counsel informs me that it is $38.89.
Dr. James. The airline offers the public a wide range of available
fares, and extensive use has been made of these. For the year ending
Sej^tember 1974, for example, use of lower than full fares accounted
104
for almost one-third of all coach revenue passenger miles flown. Be-
ginning this month another broad based discount fare has been intro-
duced which will provide an attractive bridge between charter and
regular fares.
The spectrum of fares that we offer has been used extensively by low
income groups in the United States. Last year one of every seven
adults making less than $7,000 annually flew on a scheduled airline.
Overall, 18 percent of all adults taking one or more trips by air made
less than $7,000. This pricing performance, at an adequate level of
service, either in the long run or in the short run, could not have been
matched by pricing in a deregulated environment. In fact, in the long
run, as evidenced by the pricng performance of the U.S. economy as a
whole, deregulation of the air transport industry would have placed
prices and fares at a much higher level than now exists.
Senator Kennedy. Why is that ?
Dr. James. Basing that on the pricing performance of the U.S.
economy as a whole, which was much higher in constant dollars in
1938 than our own performance, which was 64 percent less.
THE domestic PASSENGER FARE INVESTIGATION
More recently, we believe that the Civil Aeronautics Board has
taken precedent-setting steps, througli the results of its Domestic Pas-
senger Fare Investigation, to assure that the airline industry operates
at standards of efficiency responsive to consumer interests. The initia-
tion of this investigation came from Members of Congress in late 1969.
The investigation began in January 1970, and that portion of it cover-
ing fare level rate of return procedures produced its first results in
May 1973.
The resulting CAB standards of efficiency assure that no automatic
fare increase is charged to consumers for so-called industry cost mis-
takes of purchasing excess equipment, of misestimating a market and
hauling too few people, or for giving away business through discount-
ing. The CAB standards of efficiency adjust for all of these, and no
fare change is made until these adjustments have been made. Each
fare increase granted to the industry since 1973, including the 4 per-
cent increase granted last November, has been based on meeting these
standards.
These CAB fare level procedures, resulting from open public hear-
ings, are not arbitrary, were not developed from clandestine meetings,
and have a clear and comprehensive public interest platform built in.
Yet the opposite and misleading impression is often given by critics as
an emotional appeal to consumers. As we have shown, in fact, it is the
consumer who is the primary beneficiary of these procedures.
Let us turn our attention to the question of load factors, a concept
grossly misunderstood and misused. Continually our industry is told
two things : ( 1 ) we are not providing adequate levels of service, and (2)
our load factors should be higher. For our industry these objectives
are contradictory.
I believe I can make my point by referring to the statement that
Senator Kennedy made on the Senate floor on December 16, where he
referred to the difficulty a student in Boston might experience in re-
turning to his home in Detroit because of a lack of available seats on
that route. Keeping in mind that the Civil Aeronautics Board's
105
domestic passenger fare investigation established the load factor
standard at 55 percent in 1974, the average load factor in the Boston-
Detroit market was 59 percent. Senator Kennedy has cited an ex-
ample of possible inadequate service at a load factor of 59 percent. To
aA'erage 59 percent, the Boston-Detroit market shows a monthly load
factor range of 52-67 percent thus further demonstrating the season-
ality of our markets.
Senator Kennedy. You missed the point completely, because I was
not really talking about the load factor there, I was talking about the
competition that existed in that particular route and pointing out that
there was only one carrier traveling that route. There was another
one that offered to provide better service and, because the Board had
refused to have a hearing, was unable to do so. That is the point that
was made. I think it is still a valid one. If you want to draw some kind
of reference to the load factor as being the purpose of that comment,
then I am glad to clarify that for you at the present time, but that
certainly was not the point being made. There is another carrier who
wanted to get in, offered more frequent and better service, was never
granted a hearing and that opportunity is not available to that young
person. If you want to argue with that point I will be glad to hear you.
Dr. James. You Avere citing in your statement. Senator, that the
students, for example, between Boston and Detroit would be unable
to get on flights between certain periods of time because of lack of
service and the refusal of the Board to add additional capacity.
My point is that here is a situation where apparently there was
insufficient capacity and yet there was a 59 percent load factor.
Senator Kennedy. How many carriers are there in that group?
Dr. James. I am not aware.
Senator Kennedy. Oh, now, you know how many carriers there
are. Ask your associates. There is one carrier, one non-stop carrier.
Dr. James. There are lots of ways of getting between Boston and
Detroit, if you are talking nonstop, then there is one carrier.
Senator Kennedy. That is right. OK.
SMALL TOWN SERVICE (CROSS -SUBSIDY)
Dr. James. What is commonly overlooked by observers of the sched-
uled air transport system system is that 30 percent of our domestic
traffic is produced by only 70 larger city-pair markets; another 40
percent is derived from an additional 840 markets; and the final 30
percent is produced in some 57,000^maller markets. Yet, these smaller
markets are an integral part of the system and their loss would seri-
ouslv damage the adequacy of public air transport service, as well as
invoking a severe cost to the national economy.
For example, out of a passenger load of 85 on a typical flight from
Denver to Chicago, over three-fourths do not originate in Denver. They
are coming from Pueblo, Colo. ; Cheyenne, Wyo. ; Great Falls, Mont. ;
Sacramento, Fresno, and San Jose, Calif. ; and other cities in the West.
If this feeder system were tampered with, the primary market would
also became less profitable. As a result, it would receive less service,
and the remaining smaller feeder markets woidd also receive less in-
direct service.
Senntor Kennedy. Well, how can you say that? I would be inter-
ested in your printouts on that particular fact. I just know that with
106
regard to my part of the country, Air New England provides many
more opportunities for the trunk carriers and the scheduled line car-
riers to move people than when the major scheduled carriers were
traveling down into southern Massachusetts and to other parts of the
State.
Dr. James. My example would be that the analogy that Air New
England, for example, is feeding into Boston, Boston is a major hub
serving to Los Angeles or San Francisco. Flights out of Boston are
fed by many of the feeders in the New England area. The profitability
of those hub routes depends to a large extent on the feeder routes
coming into Boston.
I cite an example later in the testimony concerning a flight coming
from the West, Fresno on through Denver and Chicago on which 1
have specific figures which I believe may illustrate the point you are
looking for.
Senator Kennedy. What is the point here ?
Dr. James. If you tamper with this system that you will begin to
close it in on the periphery, that is the feeder points would be the ones
that would begin to shut down. As they were shut down it would
also have an effect on the hub. Hub service would be less, and what
you are doing, because it is a concentrated industry, is that you are
going to end up with only a few markets served by fewer carriers and
the air transport service will be seriously compromised.
Senator Kennedy. Well, that has not been the experience in my
State. You may be able to document it in other parts. I dare say that
would not hold up in New England. I dare say it would not in Cali-
fornia. There may be other parts of the country that it would.
I would be interested in what information you have to show that this
has been the situation in any of the places where there has been a reduc-
tion of scheduled flights, because it certainly has not been the case in
Boston or Massachusetts.
Dr. James. Well, I do not know that we can demonstrate what the
impact would be fully from our standpoint or the standpoint of those,
for example, that testified this morning.
Senator Kennedy. Well, then, how can you make your statements
with such assurance ?
Dr. James. Let me make this point first, if I may.
The point I was leading up to is that we do not have the experience in
this country of shutting down the air transport, systems to fully under-
stand what the impact would be in these outlying districts. We have to
rely on the evidence we now have that shows the amount of feed that
goes into a hub and the importance of that feed to the more profitable
routes that continue beyond and assume, then, that if you were to de-
regulate the low density routes would be the ones in which service
would first be dropped, and as it is dropped then the public trpnsnorta-
tion network begins to be compromised and there is a chain reaction
all the way through to the main levels of the hubs in which service is
dropped there.
Senator Kenne'dy. I think the best opportunity would be to look to
places that had certificated carriers which dropped feeder service into
these hub areas. One of the clearest examples is my own area, where
Northeast was able to drop certain of these routes, and after it was
merged with Delta, virtually all of them were dropped.
107
I dare say the smaller lines have provided a much greater degree of
service to the public, and I dare say, and I will be glad to look at the
statistics, that there is more service feeding into the major scheduled
airlines now than when the certificated carriers were flying the DC-8's
at 1 o'clock in the morning in order to meet with CAB requirements.
We have seen how Northeast used to fly down at the most inopportune
time in the world, and would be down here 4 or 5 months later saying
look, this is all the number of people traveling on it, and trying to get
permission to drop it. We saw instance after instance in which they
were permitted to drop service. Now we have been able to see the devel-
opment of a variety of different carriers ser\dng this area — from Bos-
ton all the way up the coast of Maine and New Hampshire and Ver-
mont, and we find a much more efficient and effective service, and
I dare say the numbers would show they are bringing many more
people into the major market areas.
If you are goin^ to make a statement categorically that deregulation
would mean inferior service, this is a statement that I think ought to be
supported with at least some kind of figures or documentation showing
places where that has been the case in the past. If you have some we
would welcome it.
Dr. James. Senator, I do not believe the analogy you make neces-
sarily holds, because the service that you now have in the New England
area is still a scheduled certificated service. For example, the recent
certificating of Air New England as a regional carrier.
Senator Kennedy. Do you know when Air New England was
certificated ?
Dr. James. Well, just within the last month.
Senator Kennedy. We have been flying it for the last 2i/2 years. So
we can use the figures before it was certificated if you want. I do not
want to debate this point.
Dr. James. Perhaps your service is well improved.
Senator Kennedy. I have been very satisfied with it. If they can
improve it, I am delighted.
We Avill continue. If you have any figures or statistics or studies on
this particular point we would welcome them, because obviously the
DOT has presented a statement. We will ask them for their data as
well, and if you have some we would like a chance to examine it. You
must have reviewed this, and we would like to take a look at it.
[In a letter dated February 7, 1975, the chairman of the subcommit-
tee made more explicit his request of Dr. James for a list of routes that
would be eliminated under the conditions discussed above. On April 3,
1975, the Air Transport Association submitted its reply which totaled
more than 200 pages. The chairman then requested independent evalu-
ations of this ATA study from five leading economists and several
Government agencies. The ATA study and the evaluations, together
with relevant correspondence, are printed at the end of Dr. James'
prepared statement following his testimony of this day, p. 139 ff.
below.]
Dr. James. Fine.
the interline network of airlines
Some claim that, if the present system were deregulated and present
carriers elected to leave the smaller markets, commuter carriers or
forms of ground transportation would be adequate substitutes. Data
108
developed by Dr. Gary Fromm, formerly of Data Resources, Inc.,
would indicate differently. The value of an hour's time to an air
traveler is approximately $10.50. Taking into account the slower tinies
for accomplishing the same trip by rail, bus, auto or lower speed air-
craft, the cost to individuals and therefore to the economy could
approach billions of dollars.
The replacement of many of these markets by smaller earner opera-
tions would be a hazardous one. For example, in 1972, of all U.S.
cities receiving scheduled passenger commuter service, 74, or 17 per-
cent were abandoned 1 year later and service was added to another
104. Thus, in that time period 178 cities experienced a change in
scheduled commuter service— roughly one-third of all cities receiving
such service.
The present air transport system represents a wholly integrated net-
work of scheduling, connections, interlining, and routing among and
between carriers serving cities of varying size and geographic prox-
imity to each other. A glance at the Official Airline Guide (which
contains the schedules for the entire air transport network) provides
dramatic evidence of this point. For example, the OAG (North
American edition) published on February 1, 1975, is 898 pages long.
It depicts the schedules of every scheduled carrier in North America,
to and from virtually every community served, with connections indi-
cated. It is this network which would be jeopardized by drastically
revising or dismantling the structure so carefully constructed over
the last 37 years.
The airline industry believes that the regulatory environment within
which we operate has served the public interest well. We believe the
results support that conclusion.
However, in certain instances, airlines have opposed and continue
to oppose the manner in which the regulatory process has been carried
out. And we believe that certain areas of economic regulation of our
industry do require increased attention.
For example, the problem of regulatory lag is endemic to the regu-
latory process throughout much of government. There are areas here
where productive changes can be made. The proper requirement for
full and complete industry reporting of economic, financial, and sta-
tistical data need not result in duplicate and redundant effort on the
part of the industry or the regulator. We believe reasonable cost-
benefit analysis can be usefully applied to certain of these requirements.
We also believe that the precedent-setting step of establishing per-
formance and efficiency standards for the industry should be subject
to regular scrutiny by the Board and amended when and as required
in the public interest. These should be done, however, always keeping
in mind the need for continuing understanding on the part of the
public and the government of the real world economics of the air
transport system.
We also believe that the undertaking by the Civil Aeronautics Board
of a comprehensive review of route developement policy is desirable.
Careful consideration should be given to the view contained in an
October 1974 report by the Board that : "* * * regulatory route and
route-related policies should be directed to improving the efficiency
and quality of the system, through careful expansion of route
109
authority when required by traffic, and through route rationalization."
We are also in favor of selected changes in the tariff procedures. We
would advocate extending the filing deadline for tariffs from 30 to 45
days with Board decision required after 30 days. This process would
provide 15 days advance public notice of tariff changes. A corollary of
this would be the adoption of a simplified short -form tariff which
would work to enhance public understanding of a given tariff change.
In conclusion, the kinds of changes we feel are worthy of con-
sideration are those which would tend to improve upon the present
system, and not destroy it or affect its present high level of perform-
ance. The legulated competitive environment of the air transport
system has not only fulfilled all of the objectives of an unregulated
environment and has been truly responsive to public service needs.
The record of the air transport industry shows : (1) that we are not
high priced; (2) we are consumer-responsive; (3) we offer a high
quality of service; (4) we are innovative and have introduced a high
degree of technology; and (5) we maintain an extensive network of
public service.
We believe that there is no way that a major overhaul of the regula-
tory structure of air transportation, let alone deregulation, could
improve on this record.
Thank you, sir.
I am open to additional questions, if you wish.
FARE FLEXIBILITY
Senator Kennedy. Mr. Beyer will ask some questions, but before
we get to that, what was your reaction to some of the proposals made
this morning by the DOT in terms of price flexibility, for example,
that permit at least some — I think they talk about zone of flexibility.
Dr. James. This is the zone of reasonableness ?
Senator Kennedy. In terms of rates.
Dr. James. Yes, sir.
The carriers are divided. There will be carriers who might show
some interest in that, many others who would not. I am not in a posi-
tion to give a unified industry answer to it except to say that one does
have to examine what the purpose would be. It is the purpose to
Senator Kennedy. Well, I suppose the purpose is to permit some-
body w^ho wants to fly, as I did last Thursday, from Washington to
San Francisco, to go for $100 instead of $200.
Dr. James. Yes, sir. We have introduced just this month the op-
portunity for you and others who so wish to use it to fly at discount
rates at those distances, and in effect we would view that as part of the
zoning.
Senator Kennedy. With regard to that point, you are generally ac-
cepting that proposal that they mentioned there. As I understand from
what you are saying now, you have no real problem with it.
Dr. James. What I am saying at this point, Senator, is that in many
ways the present practice is meeting the objective that you are seeking.
Senator Kennedy. Well, if they do not — then, if it is meeting the ob-
jective and you are saying that has all ready been done, then I under-
stand you are in general support of it. You say that has already been
done, it is not necessary
110
Dr. James. I am in general support of the wide variety of
fares which the industry offers the public, which are in varying
combinations.
Senator Kennedy. If you say they are all ready doing it what is
your reluctance to support it? I do not understand it. You say they
are already doing it, you are in support if they are already doing it.
You cannot have it both ways.
Dr. James. I guess what I am really saying, Senator, is that if we
are already doing it one way and accomplishing the objective a second
way, why do it the second way ?
Senator Kennedy. Well, then you are against jt ?
Dr. James. I am not in a position to represent an industry view, sir.
Senator Kennedy. What is your own personal view ?
Dr. James. That we are already meeting a zone of reasonableness
by the variety of fares that we are offering the public.
Senator Kennedy. This is not different from your industry view?
Dr. James. It is not different from our industry practice. The in-
dustry view would be different from the industry practice, depending
upon the spectrum of answers to the questionnaire that you have on
this same subject.
Senator Kennedy. That makes it very clear.
freer route entry
How about freer entry into the market area ? You say the admin-
istration strongly supports liberalization of entry into the airline in-
dustry and the proposal provides substantial entry and exit
liberalization.
Dr. James. Yes, we feel very strongly that if you had complete
freedom of entry in these markets that only the larger more profitable
markets would survive and only a few carriers would survive, and the
value we now have in the total 58,000 city-pair markets would be
destroyed, and it would not be too long until we find that our ability
to get more — to get service between more than 70 to 200 pairs out of
this 58,000 would be a reality. We would not be able to get more serv-
ice than that.
Senator Kennedy. Well, how do you respond to the points that were
given this morniup; that, if some carriers diop by the wayside because
they are poorly administered, they do so because they are inefficient?
There are others that can run an airline better. "Why do they not hove
the ability to come in and offer a price and service to the public
that
Dr. James. I simply do not accept the fact that we have as a group,
a poorly managed airline. Between 1969 and 1974, we have reduced
our employees 3i^ percent. At the same time we increased our volume
of traffic, passengers hauled by 20 percent, passenger-miles by 30
percent.
Senator Kennedy. If they are doing such a good job what do they
have to fear from anybody coming in ?
Dr. James. The thing you have to fear is the loss of some 57,000
city-pair services.
Senator Kennedy. Why do you say that? You say they are all doing
a complete job, are not overpriced, arc consumer responsive and innova-
Ill
tive and give extensive public service, so what should they have to
fear ? It seems to me the people who have something to fear are the
people who are sticking their neck out.
JJr. James. Sir, I think it is the public, the Government that should
have the fear, the fear that the public service to all of these city-pairs
will be destroyed or effectively compromised. The surviving carriers
in this should have nothing to fear, but there would be few of them
serving very few markets.
Senator Kennedy. At a lower price, I suppose ?
Dr. James. Xot necessarily, because if you compare our price per-
fonnance over the past 30 yeare, we are marketing better than the
economy. That is, better in the sense that we are priced lower rela-
tively to them.
Senator Kennedy. We are back to the question of whether fares
might not be even less if you had competition or free entry.
It reminds me of the patient who had a temperature of 101 and his
temperature was 98 one day and went up to 101 the next and 102 the
next, and the doctor said you are getting better because you are getting
sicker more slowly.
How do you know if, with competition, you might not be doing
better, even further below the national average ?
Dr. James. I think my answer would be this. Could anyone say
that we could do better — I do not think we could — but let us assume
that we did, on 70 markets, and with two or three carriers, at the cost
of serving the rest of the network that now exists. If they think we
would improve then they are overlooking the cost, the cost to the public
in particular.
Senator Kennedy. We will never know, though, if we follow your
position, because you Avould not permit or at least not encourage new
entry of other carriers into the market. The way that I understand
your answer is that nothing would b3 more disastrous for the whole
traveling piiblic than if you opened it up to any kind of competition.
If we follow your testimony, we will have no way of knowing, will we?
Dr. James. I think in response to that question, it is well advised to
keep in mind that those who advocate tliis, as they essentiaPy did this
morning, were also in extreme wonderment as to just whether or not
you could go through this transition and not effect the city service that
we now have. Many questions were raised on their part as well.
Senator Kennedy. 1 raised most of them.
Dr. James. You did, and I appreciate that.
CAB authority TO IMMUNIZE INTERCARRIER AGREEMENTS FROM THE
ANTITRUST LAWS
Senator Kennedy. What about the antitrust immunity? How do
you stand on that ?
Dr. James. I would like to refer, if I may, to our chief legal counsel,
Mr. Landry.
]Mr. Landry. Thank you, Mr. Chairman.
If I could just add one comment to what Dr. James has been saying
about the consequences of free entry as to what would hapj^en. As he
has emphasized, you have 70 markets equalling the support from
57,000 city-pairs. That fact reminds you of what Willie Sutton said
112
when they asked him why he robbed banks. He said tliat is where the
money is. The entrants would go to the 70 markets, that is where the
money is.
Senator Kennedy. I hope there will be one between Boston and
Washington.
Mr. Landry. If I may get to the other question, the system under
414, I believe it would be a mistake and a serious mistake from the
consumer point of view to do away with the antitrust immunity, to do
away with section 414. There is a tremendously integrated network with
some 24 carriers serving this host of markets in which a number of
efficiencies and cost savings are brought about through intercarrier
agreements. Those agreements would not be formulated if the carriers
were fearful of the very drastic consequences, particularly now under
the new law, of the antitrust violations.
I am not saying these agreements are worked out in smoke-filled
back rooms or anything of that sort. They are worked out in the open,
in front of the observers of the Civil Aeronautics Board, the Depart-
ment of Justice, the Department of Transportation. I have had the
privilege in the last week, for example, to play host to a very dramatic
effort of carriers around the world to try to cope with the escalating
price of fuel. Some 75 carriers have gathered together to see if they
could formulate some joint actions that might bring the price of fuel
down, to the benefit of the consumers. Those carriers held a giant
meeting last week, observed from beginning to end by the Civil
Aeronautics Board, DOT was present throughout, and the Depart-
ment of Justice had the opportunity to be there. But in any event,
any agreement that comes out of that will only go into effect if ap-
proved by the Civil Aeronautics Board. Under the holding in the
local cartage case, the CAB, if it sees anticompetitive effects, it is not
going to approve any such agreement unless it positively and affirma-
tively finds this the only way to meet a serious transportation need
or to secure important public benefits. So, I think all in all this is
very close scrutiny. And, the system is working.
Senator Kennedy. Do they keep transcripts of those meetings?
Mr. Landry. Minutes are being given to the Civil Aeronautics
Board and they are public. And, they allow interested persons to come
in and address the meetings.
Senator Kennedy. Would you support keeping transcripts, as we
do here in the Senate?
Mr. Landry. In some cases they have transcripts.
Senator Kennedy. Can you see any reason why they should not keep
transcripts? You just talked about how open the meeting was. Do
you have any reason why transcripts should not be kept?
Mr. Landry. In this case — if transcripts were made available to the
oil companies. I imagine that the dinlog would not be quite as free
as it would be absent such a transcript. But full minutes are being
submitted to the CAB today, as a matter of fact.
Senator Kennedy. You really cannot have it both ways. I think up
to this year the Congress was one of the biggest offenders. We have
executive sessions from which the public was excluded, and conferences
with the House of Eepresentatives in most instances were closed. That
has gone on for some time. It was generally felt that if we opened up
these meetings, either the Members themselves would be fighting a
113
losing battle in front of the press and the various kinds of interested
groups, or that there would be a distortion of the legislative process.
But it has been demonstrated, and I think quite effectively, that this is
not the case in the number of committees which have held the open
executive sessions in considering extremely important matters of
policy.
I am just wondering why we should not have these airline meetings
open, or maintain transcripts ; what reluctance you would have to
Mr. Landry. Mr. Chairman, I think in this particular set of discus-
sions that I am talking about, I think, it is unique in not having them
open with a transcript.
Senator Kennedy. Do you think they should be open with tran-
scripts unless there is going to be a vote taken by participants to close
it?
Mr. Landry. No ; I believe that the discussions, for example, capacity
discussions and so forth, have had consumer groups represented
throughout the discussions. I believe they have been fully open to
members of the general public and have been held in that kind of gold-
fish bowl without any adverse consequences.
Senator Kennedy. Come on, do you favor keeping transcripts, or do
you not ?
Mr. Landry. There were transcripts, I believe, of those capacity dis-
cussions and any discussions of that nature. So I say about 90 percent
of the time
Senator Kennedy. It is the other 10 percent that we want to get. The
minimum charter discussions that we had last fall, I think the tran-
script of that meeting would have been fascinating.
Mr. Landry. I am not sure of the ground rules for those discussions
as to whether there was a transcript. I do not know.
GENERAL FARE INCREASES IN PREVIOUS YEARS
Mr. Breyer. a couple of minor questions.
First, I would just like to clarify this, because we are making an
effort to keep our statistics accurate, I have gone over your prepared
testimony. I was a little bit disturbed because you stated that contrary
to what Senator Kennedy said — contrary to the December 16 state-
ment— last year the domestic airlines were granted fare increases total-
ing 10 percent. I went back and checked that again and I think we
were accurate on that, were we not ?
The CAB, on December 16, granted a 5 percent increase. It granted
a 6 percent increase in April 1964 and there was a 4 percent increase
in April 1974. Then, specifically referred to in the speech, the CAB
phased out discount fares which amounted to a 5.4 percent increase.
These total 19.4 percent. Senator Kennedy described the increases as
"nearly 20 percent."
So I would appreciate your going over your statement because we are
making an effort to be accurate. I do not think what the Senator said
is contrary to the facts.
Dr. James. We think by putting the discount fare changes in you
are mixing apples and oranges, which is something many others have
done as well. If you talk about the 5 and the 6 and the 4, the 15 for the
3 general air fare increases, you are talking about the impact we
51-146 O - 76 - pt. 1
114
had on the normal traveler. If you are talking about the discount fares,
they affected the family fare traveler and the youth traveler. To many
that change was almost as much as 40 percent because it was going from
66 to 75 percent of full fare up to full fare over three stages.
Now, in turn, however, he now has available, beginning this month,
20 to 25 percent off. So the change to many perhaps is only 10 or 15
percent increase. The change to the average nondiscount traveler, the
general fare increases then are 15 percent in that time period.
Mr. Breyer. The CAB gave us that number. I would appreciate
it if you would check it out.
Dr. James. The difference is whether or not you should have in the
calculations the discount fare changes which are really yield changes.
SMALL TOWN SERVICE ( CROSS-SUBSIDY )
Mr. Breyer. I just want to stress a point that I had some difficulty
understanding. I am not certain what argument you are making when
you talk about the complexity of the network. I think at some point
what you are saying is that there are a lot of unprofitable routes that
are being subsiaized by other profitable routes. Now, if that is the
case, what is interesting to me about that is the Department of Trans-
portation and the Council of Economic Advisers and people who seri-
ously studied the matter for a number of years argue that there is
not any substantial cross-subsidy. If in fact you did have more competi-
tion you would still get those little towns served, maybe not every
one, but certainly most of them, perhaps by commuter airlines. But
you state the contrary is true.
What I would like to ask you to do is to substantiate that claim,
come up with lists of costs or lists of those towns that would be cut
off. Can you prepare this computer printout or whatever cost studies
are necessary, because we have cost studies on one side and I think it
would be helpful to have them on the other.
Dr. James. I believe there are two questions there, one on cross-
subsidy and our ability to produce this feeder information.
On the cross-subsidy, I believe that that is a concept that has been
misused on many occasions, and I would cite this, that if you take the
flight that we have from Fresno to Denver to Chicago, and we have
27 passengers that are coming from Fresno to Denver that continue
on to Chicago. Now, they are on that major hub that is often looked
upon as subsidizing the smaller feed route that they just came on.
So they are in effect subsidizing themselves if you call it cross-subsidy.
Now, what about the passengers who are on that flight who did
indeed originate in Denver and go to Chicago. Are they subsidizing
those who were fed into Denver. Well, I believe you can look upon
that as if they are not, because what is happening there is that they
are getting a higher level of service than they would have gotten
without the feeding routes coming into Denver.
Mr. Breyer. What I am asking is that you make a serious effort to
prepare the documentation that would bear out the statement. In Cali-
fornia they have a competitive system and feeder routes, as well. Nore-
theless, you think if there were freer entry the feeder systems would
be destroyed. I am asking for the subcommittee if you could submit
documentation.
115
Dr. James. All right, sir. We will make that effort. I might indicate
that you will find tnere are other sources, and among them larger air-
craft manufacturers who have studied the same problem, and it is
very possible that they, too, could produce information along this line.
We perhaps can lurnish a list to you of tliose who may liave such
information available.
Mr. Breyer. I think it is relevant to the question. For example, you
have often talked about the need for regulation to provide public serv-
ice. This is perhaps a different question. You say "adequate public serv-
ice." In California there is a choice between adequate public service
supplied by a regulated line and unregulated lines. If you look at the
PSA figures, a line that is not subject to CAB regulation you find that
far more people fly on PSA in California than on scheduled service.
When people seem to be given that choice they seem not to take the
scheduled, CAB-regulated service.
Dr. James. We think there is a lot that needs to be illuminated be-
tween interstate and intrastate operations, and we of course, and some
of the carriers as well, will be participating in your February 14 hear-
ing in Boston.
Mr. Breyer. This afternoon is not meant to fully expose the indus-
try's position. We hope this morning's testimony will focus the dis-
cussion. Anybody in the industry who wishes to present documentation
is invited to present it in written form even if they do not testify
orally.
Dr. James. Fine.
Senator Kennedy. I want to thank you very much for coming.
I think Mr. Breyer indicated we are looking forward to the testi-
mony of the airlines themselves and working with you and we want
to tell you how much we appreciate your presence here and response to
the questions.
We will recess until next week.
The subcommittee stands adjourned.
[Whereupon, at 4 :05 p.m., the subcommittee was adjourned.]
[The prepared statement of Dr. James follows :]
Prepared Statement of Dr. George W. James, Air Transport
Association of America
My name is George W. James, I am Senior Vice President of Economics and
Finance of the Air Transport Association of America, which represents virtually
all of the U.S. scheduled airlines. I am accompanied by Mr. James Landry, ATA
General Counsel, and Mr. Gabriel Phillips, ATA Vice President-International.
Because our industry and the public it serves are directly and comprehensively
affected by the regulatory environment established by Congress, we welcome the
attention being focused on this subject — in these hearings, and elsewhere on the
part of the Congress, the executive branch and the public.
As you stated on December 16, Mr. Chairman, the basic objective of airline
regulation is adequate service at reasonable prices. We believe airline regulation
has met that test. Nevertheless, we believe that consideration by this panel and
others of the issue of regulatory reform presents opportunities not only for
thorough review of the existing structure and procedures, but — more important —
for seeking improvements in regulation. These improvements can lead to an even
more effective and responsive public air transportation system.
The regulatory environment within which airlines have operated since 1938
has resulted in "the most comprehensive air transportation network in th3
world." This is pointed up by the fact that, in 1974, the scheduled airlines, with
30,000 employees, operated a modern fleet of 2,400 aircraft on 13,000 flights daily,
and carried 208 million passenger's (representing about 75 percent of intercity
116
common carrier passenger miles ) , 3.3 million tons of freight, and 16 billion pieces
of mail. Further, in 19.4 this industry transported six million more passengers
than in 1973, and used about one billion gallons less fuel in the process. These
facts demonstrate clearly the size, importance, and public responsibility of the
scheduled airlines within the $60 billion U.S. travel industry.
Dominating the 1974 economic picture for the airlines, as for the nation, was
the combined impact of the energy crisis, inflation, and recession. Contrary to
your December 16 statement, Senator Kennedy, last year the domestic airlines
were granted general fare increases totalling 10 percent. Another 5 percent had
been granted in December 1973. These fare increases were exceeded by inflation
in airline costs of more than 20 percent, including the more than doubling of per
gallon fuel cost during the year. The fact is that additional revenues provided by
the April, 1974 fuel-related domestic fare increase and the fuel-related portion of
the 4 percent mid-November increase to which you have referred will total about
$400 million, as compared to the 1974 domestic fuel cost increase alone of
about $700 million — a shortfall of $300 million. Yet, despite the massive chal-
lenges which have confronted our industry during the past year, our record
of public service — providing quality transportation at reasonable fare levels to
meet the needs of the traveling and shipping public — has remained strong.
Simply put, the experience of 37 years of regulated competition has resulted
in an air transportation network bringing adequate, integrated, and reliable
public transport service to 540 U.S. airports serving thousands of communities,
at reasonable and cost-related prices — as a matter of fact, the best transportation
system in the world.
This industry has come a long way since 1938, and the regulatory environment
within which it has operated played a key role in this development. The CAB
and the private, competing airline managements have worked within the frame-
work of regulated competition established by Congress to furnish the American
people this unparalleled system of transportation, a system, we believe, that
would not have been possible except through a balance between regulation and
competition in the industry.
Regulated Competition
The system of air transportation, since its inception as an effective force in
the American economy in the late 1930's, has been founded on the principle of
regulated competition. This has been necessary because of the special position
of public transportation in the economy. In the spectrum of economic activity,
from a natural monopoly to perfect competition, transportation falls in between.
Unlike certain specific public utilities in which embedded costs are immense
and therefore economies of scale so apparent ^ that they may be characterized
as natural monopolies, components of air transportation are conducive to com-
petition. While the cost of equipment and facilities is high, and rising, airlines
are by their nature mobile. More important, airlines are embedded in the essen-
tially competitive structures of market economics, requiring efficient and adapt-
able management to compete effectively against unregulated business for capital
in the marketplace.^ Thus, competition has properly played a key role in the
development of U.S. air transportation.
Still, air transportation cannot be placed in the perfect or workable competi-
tive environment since, as historical experience has shown, without degrees of
government regulation of competition, public service industries have become
inadequate. Nor can it be expected that abolishing of regulation would lead to
the best allocation of air transportation resources.
The Elements of Air Transportation Regxilation
Air transport regulation can be viewed as having essentially four basic
objectives : ^
1. Prevent unreasonable prices which produce excessive earnings ;
2. Ensure profits suflScient for the development and expansion of the industry;
3. Assure that a wide variety of services are offered to the public ;
4. Maintain certain types of directly unremunerative services that serve a
broad public need.
- Me^-er. John. Competition. MTUet Structure and Regulatory Institutions in Transporta-
tion. .50 Vn. L. Rev. 212, 214 (1964).
2Thi(1. at 218.
'Meyer, John: Peck, Merton ; Stenason, John; Zwlck, Chnrles. The Kf'onom'cs of Com-
petition in the Transportation Industries, Harvard University Press, 1960, p. 11.
117
With the exception of the fourth objective, the others are generally considered
to be the normal results of the workings of a competitive marliet.
Further, there are certain unique elements of air transportation which, if left
to the free market processes, could create a concentrated industry in a relatively
short period of time.* These characteristics include the complexity of aircraft
operations, the increasing expense of individual aircraft, the need for extensive
maintenance facilities, and the fact that a high percentage of the passenger
markets are between points of such low traffic density that even a single monopoly
carrier might not be able to cover costs. Moreover, though, the air transportation
system still must purchase its own goods and services from the environment of
competition, for it buys its supplies at prices set by the economy as a whole, it
compensates its employees at wage levels uncontrolled by government, and it must
compete for both the consumer dollar and the capital dollar in the basically un-
regulated markets.^
All of the above shows that there are characteristics of the air transportation
market that preclude its operating in perfect of workable competition, and that
the middle ground between a natural monopoly and deregulation is desirable
from the standpoint of public service and from the standpoint of economic gains
in the economy as a whole.
Air transportation is perceived as performing an essential public service,
namely, the movement of people and goods throughout the nation, lubricating
the flow of commerce. It is this fundamental purpose, superimposed on the
natural and proper competitive environments, which government seeks to achieve
through its power of regulation.
The air transportation marketplace, and the nature of the business itself,
provide a special role in the economy. Airline customers, including government,
business, and communities relying on airline services, have a need for such serv-
ices at times, to places, and under circumstances ordinary business would not
provide. This need is repeatedly emphasized in the demand for such services
expressed by the public at route hearings before the CAB, in legislation enacted
by Congress, and generally in the marketplace.
The National Air Transportation System
Thus, the result of this government involvement, combined with the benefits
of a vital private enterprise, has been an environment of regulated competition.
This environment has provided a major impetus for the development of the
present national air transportation system sought by Congress in the public
interest since the enactment of the Civil Aeronautics Act of 1938 in response to
the unregulated economic climate and resulting chaos characterizing the pre-
ceding decade."
The national air transportation system is characteri7ed by stability, speed,
reliability, and, above all, a vast network of interlocking air routes connectinj?
58,000 city-pairs. Its value to the nation and the public is derived from all of those
essential features — providing society with speed, mobility, and convenience
through the integrated service network, contributing to employment, directly
and indirectly through allied services and related industries, and making a
significant gross contribution to the total output of the United States.
It is the continued strengthening of this system in the public interest which
the issue of regulatory reform concerns, and which is the stated goal of these
hearings.
Objectives of Reform : Theory and the "Real World"
Many of the regulatory policies and procedures developed over the years by
Congress and the Civil Aeronautics Board naturally have been the subject of
discussion and debate among articulate and learned proponents and critics —
in government, in institutions of learning, and within the airline industry. Es-
pecially in recent times, the debate has been extended even to question the con-
tinued wif'dom of the underlying principle of regulated competition itself.
Mr. Chairman, you have spoken of the obligation of Congress, in its role as
legslative overseer of the regulatory structure, to examine that structure to as-
sure that the CAB carries out its responsibility to regulate air carriers in the
public interest, and to make such changes as may be required. This process is
«Ibid., p. 228.
s Tbid., p. 2.
" First Annual Report of the Civil Aeronautics Authority, 1940, p. 1.
118
not only useful, but patently necessary, we believe, to assure the continued
vitality of our industry and the public service it provides.
The Real World
We believe it essential that in the deliberations today, and in those vphich
will follow, special care be taken to insure that it is the "real world" of air
transportation which is the subject of scrutiny. Hypothetical models alone —
based as they are, not on the actual demonstrated needs of the traveling and
shipping public, but rather on theories applicable only in an insulated theoret-
ical environment — may be helpful as a guide to thinking. But their application
beyond the classroom or the text book must be carefully considered in light of
existing, real circumstances.
We intend, therefore, to look to this "real world", today's and tomorrow's,
to review what the objectives of air transiX)rtation and the underlying regulatory
principles are; to identify the actual results of our system of regulated com-
petition ; and to suggest realistic areas of improvement in that system to render
it better able to serve public needs in the last quarter of this century.
The Critics' View and Its Inadequacies
Many of those who have found fault with the regulatory environment in which
air transportation now operates seek to achieve a laudatory goal : air transport
service at minimum cost-based prices, principally through operation at higher
load factors generally termed maximum efficient quality of service. We believe
we have accomplished that goal taking into account another equally important
goal, the need for adequate public service. Little, if any, attention is paid in the
scholarly works published by the critics to this important need which you have
cited. Senator Kennedy, as the basic objective of airline regulation. After all,
it is the provision of adequate public service, at reasonable prices, which by
definition characterizes an effective public transportation system. And adequacy
can be measured in many ways, in respect to a particular market for example,
by a precise measurement of volume, timing of schedules, ability to obtain seats
on a particular flight, load factor on flights operating at convenient times.' To
serve the public adequately, the air transportation system must permit reason-
able access between all points on the system.
Additionally, the critics have paid little attention to the need for providing
an amply differentiated range of qualities and types of any given product to
choose from,^ a prime objective of competition in our nation's economic system.
As I shall demonstrate, it is this choice of product, at a varying range of price,
which today characterizes air transportation in the United States, and it is a
measurement of the effectiveness of our competitive environment in serving the
public.
A system which would fail these tests clearly would not be providing effec-
tive public service and, in turn, contributing to the nation's economic strength.
In reviewing the results to date of regulated competition in public air trans-
portation, we shall focus on those objectives sought by critics, always mindful
of the overriding public requirement for adequate service.
Achievements of Regulated Competition Since 1938
The True Costs of Air Transportation
Since 1938, average scheduled airline passenger fares, in constant dollars,
have steadily declined relative to costs of all U.S. goods and services (exhibit 1).
The fact can be further demonstrated by the following example : When compared
to prices of certain other commonly purchased items in the years 1948 and 1974,
air fares represent a bargain to the consumer. During this time the round trip
air fare between New York and San Francisco rose 21 percent ; a pound of round
steak increased in price 100 percent ; a pair of men's shoes increased over 120 per-
cent; a Chevrolet automobile increased over 220 percent; and though not
commonly purchased, a year's tuition at Harvard increased over 640 percent
(exhibit 2).
Further, in comparison with other modes of common carrier transportation, air
fares, in 1938 constant dollars, have dropped markedly more than either bus or
coach rail fares ( exhibit 3 ) .
T Milwaukee-Chicago-New York Restriction Case. 11 CAB reports, 310. 319 (1950).
s Clark, .T. M., Comnetition : Dynamic Criteria of Appraisal, Business Organization and
Public Policy, Leven, H. O., ed., 1958, p. 8.
119
coff?o?nifn ^""^^^ have Similarly experienced a continued decline relative to
costs of all U.S. goods and services in the period 1946-1974 (exhibit 4) ^^
Choice of Fares
For the domestic air traveler, a wide choice of fares is currentlv available
depending on time of day or week traveled, length of stay, and c?ass of service
desired^xXotable among these fares is the recentlj approved broad based discount
fare, which provides an attractive bridge between charter and regular fares
Public use of the entire range of available fares historically has been extensive
For the year ending September 1974, for example, use of lower than full fares
accounted for almost one-third of all coach revenue passenger miles (exhibit 5).
Price Performance
From the evidence presented here, it is inaccurate and unfair to draw the con-
clusion that air fares are high. Further, to then blame it on a lack of government
regulation or the nature of regulated competition is, of course, also inaccurate
and unfair. Let me summarize what I have just presented regarding air fares :
1. The record of regulated competition in the air transport industry shows
that, in constant dollars, air fares are 64 percent less than they were in
1938.
2. In the spectrum of price changes in current dollars, since 1948 prices of
nearly all U.S. goods and services exceed the change in the price of air fares.
Air fares have averaged less than 1 percent a year increase over this time
period.
3. The use of scheduled air fares includes individuals with incomes well
below the average in the U.S. A 1974 Gallup survey showed that one of every
seven adults making less than $7,000 annual income flew on the scheduled
airlines. Overall, the Gallup data revealed that 18 percent of all adults mak-
ing one or more trips by air made less than $7,000 yearly (exhibit 6).
4. Although the airlines are more fuel intensive than most U.S. industries
and have had to absorb $1 billion of additional fuel costs in the past year, still
general air fare increases in 1974 were less than the change in the consumer
price index and considerably less than the change in the wholesale price
index. The addition of the 5 percent general fare increase in late 1973 would
not alter this comparison appreciably.
This pricing performance, at an adequate level of service, either in the long
run or the short run, could not have been matched by pricing in a deregulated
environment. In fact, in the long run, as evidenced by the pricing performance of
the U.S. economy as a whole, deregulation of the air transport industry would
have placed prices and fares at a much higher level than now exists.
CAB Performance Standards— The Effect of the DPFI
Members of Congress were primarily responsible for the Civil Aeronautics
Board initiating the Domestic Passenger Fare Investigation in January 1970. As
a consequence, the CAB conducted a most thorough and comprehensive review
and revision of the procedures by which domestic passenger fares are regulated.
That part of the investigation covering fare level and rate of return procedures
began in January 1970, and the results were first applied in May 1973. It in-
volved thousands of hours of staff work, research, and open public hearings
participated in by any who so desired. Administrative law judges listened to
the arguments of interested parties for assuring, among other things, that the
airline industry was responsive to consumer interests and needs, and that such
benefits to the traveling public in the form of reasonable air fares were passed
on. The results produced an innovative step forward in regulatory procedures,
and were a testimonial to the air transport industry's staying well ahead of any
need for wholesale regulatory reform. The CAB standards of efficiency assure
that there is no automatic fare increase to consumers for so-called industry cost
mistakes of purchasing excess equipment, of misestimating a market and hauling
too few people, or for giving away business through discounting. The CAB
standards of efficiency adjust for all of these, and no fare increase is allowed
until these adjustments have been made.
Since May 1973 each fare increase granted to the industry, including the 4
percent increase granted last November, has been based on meeting these
standards.
Many of the participants in various phases of the investigation include those
who now criticize the CAB for approving fare changes.
These CAB fare level procedures, resulting from open public hearings, are not
arbitrary, were not developed from clandestine meetings, and have a clear and
120
comprehensive public interest platform built in. Yet the opposite and misleading
impression is often given by critics as an emotional appeal to consumers. As we
have shown, in fact it is the consumer who is the primary beneficiary of these
procedures.
Adequacy of Service — Load Factors
As I have emphasized previously, in addition to meeting the need to provide
reasonable prices, the primary function of our industry is to provide adequate
and reliable service throughout the nation, to permit people and goods to move
rapidly and smoothly from any one community to any other. This system, then,
must provide service at the times and places desired by the public.
Senator Kennedy, in your statement on the Senate floor on December 16,
you referred to the difficulty a student in Boston might experience in returning
to his home in Detroit because of a lack of available seats on that route, I am
sure you will recall that the system load factor standard established by the
Board in the Domestic Passenger Fare Investigation was 55 percent. But the
diflSculty of relating any particular load factor to adequacy of service is clearly
illustrated bv vour example.
In 1974, the average load factors experienced by the single carrier with nonstop
operating authority in the Boston-Detroit market was 59 percent. Thus, though
some critics of our industry believe our sy.stem load factors should average as
high as 65 percent, you have cited an example of possible inadequate service at
a load factor of 59 percent. In reality, you have underscored a point seldom under-
stood by our load factor critics. To average 59 percent, the Boston-Detroit
market shows a monthly load factor range from 52 to 67 ijercent, this example
offering further demonstration of the seasonality of our markets (exhibit 7).
In order to reach the higher .system average load factor standards suggested by
many, the airlines would be required to adjust capacity to conform to low-
demand periods, inevitably resulting in less service available to passengers in
busier times.
The question of capacity, then, is not a simple one in the real world we serve.
There is a common tendency among observers of the scheduled air transport
industry to overlook the fact that, although 30 percent of our domestic traffic
is produced by only 70 larger city-pair markets, 40 percent is derived from 840
markets, and another 30 percent is produced in some 57,000 smaller markets
(exhibit 8). The units of capacity available to serve the.se disparate markets
are not infinitely adjustable — they are not, in fact, those elusive available seat-
miles we hear and read about ; they are airplanes, each containing many seats.
Thus, to add a few extra seat miles in a market, where the individual aircraft
have maximum seating density, requires the addition of significant numbers of
seats, represented by another flight, or the substitution of larger aircraft. It
should be noted that increasing the size of aircraft does not increase frequency
for the convenience of passengers in a smaller market. Similarly, the reduction
of a few seat miles to adjust to a temporary down-turn in traflEic in a particular
market or to changing economic conditions normally requires the elimination
of a flight. For example, one major carrier operates a single nonstop Boeing 707
between New York and Phoenix, producing on that one route 197 million seat-
miles annually. How can a few seats be added or reduced on that route?
Whether or not the real world facts conform with any theoretical model,
simply stated, the decisional units our industry planners work with are not
easily flne-tuned. They cannot be easily adjusted without the danger of substan-
tial elimination of needed public service, and without potential damage to the in-
tegrated air transportation network. And the macro-analysis frequently applied
to our industry does not take into consideration the units of capacity we must
deal with every day.
The Integrated Network — Through Flights and Connections
In light of these facts, how does the scheduled air transport industry provide
service for more than 57,000 smaller markets, and integrate those markets into
the network including the 70 major markets?
This achievement is the result of two essential devices — through flights and
connections.
Through flights constitute extensions of flights to provide service for a smaller
amount of local traffic to extended points and major markets. Similarly, through
the connections offered by the integrated scheduled air transportation system, it
is possible to make transfers onto other aircraft in order to reach any of the
540 aitiiorts served. Because the number of passengers in many of these local
121
markets is far below the level required to supiport single-plane service,' it is by
the use of through flights and connections that carriers are able to provide the
present significant level of single plane service and transfer service.
Coineidentally, then, this process becomes the principal basis for the airlines'
ability to serve an extended network of cities. Of course, it also results in lower
industry load factors which are brought down by both through and connecting
flights from low density cities.
The Operation of the Network
In a clear example of this process, one of the major scheduled airlines provides
daily DC-8 one-stop through service from Fresno, California, via Denver to
Chicago. At Denver, this flight is connected by 11 other flights, from such dis-
parate originations as: Pueblo, Colorado; Cheyenne, Wyoming; Great Falls,
Montana ; Sacramento and San Jose, California. Figure 1 depicts this complex
for an average of a peak and low traffic month. On this eastbound flight. 27
passengers originating at Fresno ultimately terminate at Chicago. In addition,
approximately 42 passengers board the flight in Denver from 11 connecting flights!
Out of a total passenger load of 85 from Denver to Chicago, therefore, over three-
fourths do not originate in Denver. The majority of passengers on that flight are
fed to it through the highly integrated scheduled system, a fabric woven over 37
years of regulatory supervision of air transportation.
■ " «^*'x.P°'?,®f $l^i^°"J^ System— Analysis and Policy Recommendations, Bureau of Operat-
ing Rights, CAB, October, 1974, p. 79.
122
Figure 1
On the return flight, originating in Pittsburgh, operating through Chicago and
Denver, and terminating in Fresno, the intricate fabric of through flights and
connections is even more apparent, as shown on figure 2
123
Figure 2
Unrestricted entry or exit would cause serious consequences to this system.
There can be little doubt that if one, two, three, or more of these feeder con-
nections, or the beyond segments on through fliglits, were eliminated from this
c(mii)lex the fabric itself would disintegrate.
As is clear in the cited examples, the profitability of the primary market, in
this case Denver-Chicago, is dependent on the many smaller secondary markets
it serves. If oven a few of the secondary markets ceased being served regularly
and dependably, the primary market may well become less profitable. As a re.sult,
it would receive less service, and the remaining smaller feeder markets would
also receive less indirect service. The ultimate effect, then, of small market
adjustments can be extreme.
124
Further dramatic examples of this principle are readily available, e.g., Albu-
querque, New Mexico; Moline, Illinois; Nashville, Tennessee; Portland, Oregon;
Providence, Rhode Island ; Tiicson, Arizona, are readily accessible to Akron/
Canton, Ohio, with a single connection and never more than a single stop.
Furthermore, in 1972 this system provided single plane service to all markets
with over 70 passengers a day, and to all but three markets carrying more than
60 passengers daily^ — a direct result of the combination effect of through traffic
between several markets on a single linear route.^" Additionally, in 1972 on flights
between cities less than 100 miles apart, 90 percent of all passengers transported
connected to other flights or were carried as through passengers ; on flights
between cities 600-800 miles apart, such connecting or through passengers com-
prised about two-thirds of the total ^^ (exhibit 9).
The Interdependence of the Network
The quality of service to the 57,000 smaller relatively low-demand markets,
therefore, is directly dependent on the highly integrated, stable air transport
system. The system operates witliout significant changes in the number of car-
riers offering service, without the instability which would characterize unre-
stricted freedom of entry and exit, and with the CAB-imposed requirement that
service continue to be provided where warranted in the public interest. Lapses in
service resulting from carrier failures, from large scale withdrawals of service,
or from lack of a tie-in to ticketing, baggage handling, or other benefits of the
present system, would inevitably disrupt that system, and would inevitably work
hardship first on those living in smaller communities who rely on quality
scheduled air service to meet their transport needs. Moreover, automobile gaso-
line consumption would increase as people are unable to use air transportation
and are forced into the use of ground transportation. Further, it would represent
a major cost to the nation in time lost in conducting business or time shortened
for personal or pleasure reasons.
In January, 1973, Dr. Cary Fromm of Data Resources, Inc., completed a study
for ATA on The Value of Aviation Activity. The study estimated cost and time
differentials in 1970 among four modes of service over the average airline flight
distance of 679 miles. Cost and time estimates covered the entire trip, including
not only enroute but terminal and local access costs and time as well.
The DRI study also estimated the average family income of an air traveler in
1970 to be $22,500 a year. If such a traveler valued his time at an hourly rate
equivalent to his annual salary ($10.47 per hour), the following table would
illustrate the monetary value of traveling by air versus alternative modes : ^
Added trip cost
of air versus
alternative mode
Time saved in
traveling by air
(minutes)
Monetary sav-
ings in traveling
by air
Air/rail..
Air/bus
Air/auto...
.--- 17
441
563
508
'1!
72
Birmingham, Alabama, to Miami, Florida, is about the same trip distance
(661 miles) as the average distance used in the DRI study. In 1970 there were
an estimated 29,000 passengers in this market who started their air trip in one
of these cities and whose final destination was the other city.^" The dollar value
of the time savings in this market alone would be :
Time savings
(in millions)
Air/rail 1.9
Air/bus 2.4
Air/auto 2.1
i«Ibld., p. 62.
11 Ibid., p. 65.
^ Fromm, Gary, and Data Resources, Inc, Value of Aviation Activity, ATA, January,
1973. pp. 9 and 12.
" CAB, Origin-Destination Survey of Airline Passenger Traffic, Domestic, table 8, 4th
quarter 1970, p. 86.
125
On this basis elimination of air service to thousands of smaller city-pair
markets would cost the national economy billions of dollars. Substitution of less
time-efficient aircraft would also cost the air traveler and the national economy.
Commuter aircraft, for example, cannot fly as fast as larger propellor or jet air-
craft nor as far. Again, application of this time loss impact to thousands of city
pairs would cost the economy billions of dollars.
Efficient and Productive Operations
Within the framework of regulated competition, the scheduled airlines have
produced, through operational efficiency and productivity, the quality public
service I have described.
The scheduled airlines have operated with a high level of schedule reliability.
In 1974, 98 percent of all miles scheduled were actually flown, a record especially
remarkable in view of the variety of weather conditions experienced and the
degree of mechanical stress placed on a system involving 13,000 daily flight opera-
tions. A non-integrated system, lacking regulatory controls, could not be expected
to approach this degree of reliability.
Equally remarkable, the scheduled airlines have conducted their operations in a
time of high inflation with a high degree of cost control — especially over those
costs which were peculiarly within the power of airline management to control.
For example, advertising costs per revenue ton-mile in the third quarter of 1974
were 8 percent less than in 1967, and passenger food costs per passenger mile rose
less than 5 percent over the past year. On the other hand, since 1967 labor cost
per employee has risen about 92 percent and fuel cost per gallon by 150 percent
(exhibit 10). Nevertheless, in 1974 the scheduled airlines carried 20 percent more
passengers than in 1969, accounting for 30 percent more revenue passenger miles,
hut with 3.5 percent fewer employees.
Clearly, then, the management record of the scheduled airlines is a good one,
especially under conditions of great stress, and the payoff for the public has been
in low fare levels as measured in comparison with other goods and services pro-
vided in the economy at large.
Finally, it is important to note that the speed and safety record of the industry,
resulting from technological improvements which the airlines helped develop,
has permitted the public to travel quickly and safely across the nation. The
impact of these developments on the abilities of government and private business-
men to conduct their important affairs, and the general public to travel on per-
sonal vacation or pleasure, must be weighed in any assessment of the effectiveness
of regulated competition.
Impact of Regulatory Reform
Public Policy, Section 102
The scheduled airlines lielieve that this review of the regulatory structure and
environment in which air transportation operates can product improvements to
the excellent system that exists. We shall suggest, today and in later stages of
your deliberations, some areas where we believe adjustments might be considered.
Nevertheless, while any of our carriers may be critical of some aspects of the
specific application by the CAB of its statutory authority pursuant to the Federal
Aviation Act of 1958, we believe that underlying public policy contained in section
102 of that Act is sound. It is vital to our nation's long-term interest that the
precepts established in section 102 be reiiiforced, not discarded. For, as the real
world results we have described so clearly demonstrate, those principles have
worked well to serve the broadest public interest. In fact, if section 102 did not
exist, it would most certainly be needed now.
Theory Versus Practice — The Public Interest
No one can be certain of the consequences of tampering with the structure —
least of all those who base their proposals on so-called "perfect" econometric or
theoretical models. Such models are perforce based on assumptions untested in
the special marketplace and operating environment which controls air transpor-
tation " — and they are developed fundamentally wnthout a basic regard to all of
the public interest considerations which must concern Congress, the CAB, the
'* Assumptions on these models generally begin with ceterus paribus, i.e.. all other
things remaining equal. In the real world all other things do not remain equal and the
change in one factor must be reviewed in light of changes in all other factors.
126
airlines, and the tliousands of U.S. communities served by scheduled air trans-
portation.
These considerations, broadly termed public service, are not susceptible to neat
econometric equations and tidy quantification, but they are nonetheless real, and
frequently are determinative if a viable national air transportation network is to
continue and contribute to the national economic welfare, operating as it must
within the matrix of conflicting interests.
Moreover, in meeting the critics on their own ground, a word must be said
with respect to the consequences one might anticipate from wholesale, so-called
"free market" restructuring of the system.
Disintegration of the Network
The present system represents a wholly integrated network of scheduling, con-
nections, interlining, and routing among and between carriers serving cities of
varying size and geographic proximity to each other. Despite this high degree
of integration, the system is dynamic — it is continually changing to meet new
traffic needs. A glance at the Official Airline Gride (which contains the schedules
for the entire air transport network) provides dramatic evidence of this point.
For example, the OAG (North American edition) published on February 1, 1975,
is 898 pages long. This massive volume depicts the schedules of every scheduled
carrier in North America, to and from virtually every community served, with
connections indicated. The OAG is republished every two weeks, and incorporates
the most up-to-date changes in schedules, connections, and service provided
throughout the system, throughout the 58,000 U.S. markets (and some foreign
markets) served by the scheduled airlines.
It is the continuity and complete integration of this network which wOuld be
jeopardized by drastically revising or dismantling the structure so carefully
constructed, and continually improved, over the last 37 years. And with what
result?
First, there can be little doubt, at least in the short term, that, adaptable
though they may be, scheduling, connections, interline routings, ticketing and
baggage handling would be severely disrupted by airline entry into and exit
from markets on an unrestricted basis. Customer service inevitably would be
most adversely affected.
Even more important, as some have properly contended, free market forces
would result in scheduled airlines' leaving many less profitable markets, and
concentrating only on certain of the major routes, with the consequence that
medium and smaller size cities of the Northeast, Midwest, South, and Far
West would suffer.
How would they suffer? First, their access to major markets would be re-
stricted severely. Certainly many entrepreneurs would seek to serve some of those
markets. Such service would be represented by airlines of varying reliability,
new and old, some of erratic or marginal financial strength, often suffering at the
outset by the extraordinary start-up costs required for purchase of aircraft and
establishment at airport facilities.
The record of the commuter carrier industry, good as it is with respect to
reinforcing the existing scheduled air transportation network, offers ample proof
of the foreseeable circumstances confronting many smaller operators seeking to
serve the many less dense markets now served well through the effects of through
and connecting scheduled air transportation. While much has been said and
written of the diseconomies of scale in air transportation, the diseconomies of
small scale with respect to stability, dependability, and overall adequacy of
service are particularly hazardous and should be carefully examined.
For example, in 1972, 431 U.S. cities received scheduled pas.senger commuter
service. Of those cities seventy-four (17 percent) were abandoned in 1973, and
service was added to 104 new, previously unserved cities. Thus, in a single year,
178 cities exi)erienced a change in scheduled computer service — roughly one-third
of all cities receiving such service. The volatile experience of the largely unregu-
lated commuter system hardly gives one confidence that the consequences of a
free market approach to air transportation would represent an adequate substitute
for the benefits of the stability which has characterized the national system
wisely devised by Congress and regulated by the CAB since 1938 Reliable service
to small and medium cities especially is threatened by any weakening of the
integrated stucture, and a weakening of those markets threatens the continued
strength even of many of the larger markets.
127
Further, the cost to the smaller communities of operating their existing airport
facilities in the absence of regular scheduled service would be high. Maintaining
a reasonably up-to-date facilty for uncertain or sporadic service ay well prove
beyond the means of many communities. If those communities were to require
the carrier serving the community to bear a high proi)ortion of these expenses on
the basis of irregular operations, the cost to that carrier may well be prohibitive
even for the level of service it is otherwise capable of jiroviding. Thus, the dis-
integration of the system may well feed on itself — resulting in even less service
to many U.S. communities not closely proximate to the major markets.
The Public Cost of 65% Load Factor
The relationship between load factors and service requirements for the many
communities receiving scheduled air service is profound. Many critics of the air-
line industry have criticized the load factor performance. Yet, the 55 percent
load factor standard established by the Civil Aeronautics Board, taking into
account load factors of 30-40 percent on some low density routes and peaks of
80-95 percent on some high density routes, incorporates an allowance for a level
of service suitable for maintaining the expansive network of hundreds of smaller
communities throughout the United States. In order for these commimities to be
served, average system- wide load factors cannot be high.
This result is graphically exemplified by the impact on air transportation of the
current energy crisis. We have developed estimates of possible future reductions
in service as measures of the impact of the Administration's energy proposals.
In order to meet a 65 percent domestic system load factor at prevailing fare
levels, as suggested by some as a solution to the airlines growing fuel cost
problem, availal)le seat miles (system capacity) would have to be reduced 25
percent, and hundreds of aircraft grounded, with tens of thousands of employees
released. The effect of cutbacks of this magnitude on service to cities large and
small would be a severe penalty to public service and to the economy as a whole.
Recommended Regulatory Reform Considerattons
In general, the airline industry believes that the regulatory environment
within which we operate has served the public interest well. We believe the
results support that conclusion.
However, in certain instances, airlines have opposed and continue to oppose the
manner in which the regulatory process has been carried out. And we believe that
certain areas of economic regulation of our industry do require attention.
Regulatory Lag
By no means restricted to the procedures adopted by the Civil Aeronautics
Board, the problem of regulatory lag (delay in regulatory decisionmaking) is
endemic to the regulatory process throughout much of government. As a conse-
(luence, decisions when made may no longer be timely or well-suited to the cir-
cumstances. Notable among the public benefits resulting from the DPFI has been
the reduction of time between cost changes and fare adjustments, particularly
early in 1974 with respect to the impact of the fuel crisis on airline costs. It seems
sensible to our industry that the application to other areas of regulatory decision-
making of more efficient and streamlined approaches, with full public
participation at all stages, would result in a more responsive regulatory process.
Reporting Requirements
As with respect to the question of regulatory lag, we strongly believe that the
proper requirement for full and complete industry reporting of economic and
financial statistical data need not result in duplicative and redundant effort on
the part of the industry or the regulator. The application of reasonable cost and
benefit analysis of the current reporting requirements will result, in our opinion,
in a streamlining of this effort and substantial cost savings to both industry
and government, without in any way impairing the public interest in full and
complete data. In fact, through simplification and elimination of redundancy,
much of the complex data now available could be rendered more understandable,
and therefore more useful to all interested parties to the regulatory process.
Continued Refinement of Regulatory Standards
The Civil Aeronautics Board, notably in the DPFI, has established standards
for measurement of industry performance. While our industry has generally
128
supported their adoption, there continue to be differences of opinion with respect
to the application of some of those standards. We believe regulatory standards
need not be set in concrete. On the contrary, they should be subject to continuing
scrutiny by the Board, and amended when and as required in the public interest.
Such continuing refinement would characterize a regulatory process truly respon-
sive to the continuing changes in the dynamic American economy.
Route Development Policy
The scheduled airlines believe the undertaking by the Civil Aeronautics Board
of a comprehensive review of route development policy is desirable. There may
be different opinions within our industry on the findings, conclusions, and rec-
ommendations contained in the study undertaken by the CAB's Bureau of Oper-
ating Rights, the Domestic Route System : Analysis and Policy Recommenda-
tions.^'^ However, we believe careful consideration should be given to the view
contained in that report that :
. . . regulatory route and route-related policies should be directed to im-
proving the efficiency and quality of the system, through careful expansion
of route authority when required by traffic, and through route rationali-
zation.^"
Because of our obligation to provide the public adequate service, we share the
Bureau's statement that without such policies :
... it is possible that the quality and eflBciency of the system will decline
over time and, ultimately, adv'ersely affect the general economy."
The Board, our industry, and the public should carefully consider the Bureau's
recommendations with respect to requirements in future route proceedings for
submission of data ; implementation of published standards for route expansion
consistent with the Board's DPFI goals and traffic requirements ; and route
rationalization. This approach could represent a significant step in dealing with
an aspect of air transport regulation deserving attention.
Tariffs
Section 403 of the Federal Aviation Act of 1958 provides for carrier filing of
full and complete tariffs with the CAB for public inspection.
The principle embodied in this statutory requirement is clear — that the public
interest is best served by advance notice of applicable rates and services, rules,
regulations, and practices for air transportation. Under current procedures,
achievement of this objective is impeded by last-minute approval or suspension
of tariffs by the Board. The scheduled airlines have advocated a change in these
procedures, to extend the filing deadline from 30 days prior to implementation
to 45 days, with Board decision required after 30 days, thereby providing 15
days advance public notice of tariff changes. Further, in view of the necessary
complexity of tariff filings, we believe adoption of a simplified short-form tariff
would work to enhance public understanding of a given tariff cliange. The short-
form, of course, would not replace the more complete tariff filing properly re-
quired for complete information purposes. However, it would serve to render
more meaningful to the consumer the effect of any given tariff change.
In conclusion, we wish to reemphasize our support for the effort this Sub-
committee has undertaken, today and in later sessions, to review the effective-
ness of federal regulation of the scheduled airline industry. We believe the public
benefits derived from regulation have been many ; and we urge consideration
of the suggestions for improvement which we have made, and will make in
coming hearings. Out of this process and the continued attention of Congress
to the needs of the public for essential public air transportation services, we
are confident the strength of the national air transport system is assured.
On behalf of the Air Transport Association, I wish to express our gratitude
for the opportunity to discuss with this Subcommittee our views on this matter
so vital to our nation's economic welfare.
1" Bureau of Operating Rights, CAB, October. 1974.
i« Ibid., p. 9.
I'Ibid., p. 146.
129
Exhibit 1
AVERAGE FARE PER PASSENGER MILE
DOMESTIC SCHEDULED SERVICES -- TRUNK AIRLINES
(1938 Constant Dollars)!/
AVERAGE
REVENUE
PER
PASSENGER
MILE
6
]
\
\
v^
\
„ . .„ Si
\_l Deflated by Implicit Deflator - GNP, Adjusted to 1938 Base.
2/ 1974 Yield for First Nine Months.
51-146 O - 76 - pt. 1 - 10
130
Exhibit 2
CHANGES IN AIRFARES COMPARED WITH
OTHER U.S. PRODUCTS AND SERVICES
(Current Dollars)
Per cent
change
Item 1948 1958 1968 1974 1948-1974
House $47,409 $59,558 $72,840 $100,000 +110.9%
Family Size Chevrolet $ 1,255 $ 2, OSl $2,656 $ 4,119 +228.2%
Newspaper
(The New York Times) 3(p 5<? 10(p 15<p + 400%
Ticket to
Broadway Musical $6.00 $ 8.05 $ 12.00 $ 15.00 + 150%
Ranch Mink Coat $ 4,200 $ 4,000 $ 4,200 $ 4,500 + 7.1%
Nathan's Hot Dog 20(p 25? 35(? 50? + 150%
Pair of Blue Jeans $ 3.45 $ 3.75 $ 5.29 $ 11.25 +226.1%
Gallon of Gasoline 25. 9(p 30. 4(; 33.7? 55.6? +114.8%
Pair of Men's Shoes $9.95 $ 11.95 $ 16.95 $ 21.95 +120.6%
Year's Tuition at Harvard $ 455 $ 1,250 $ 2,000 $ 3,400 +647.3%
Hospital Cost
per in-patient day $ 13.09 $ 28.17 $ 61.38 $ 114.90 +777.8%
Roundtrip Airfare
New York-London $ 630 $453.60 $484.50 $ 640 + 1.6%
Phone Call, New York to
Topeka, Kansas (day rate) $ 1.90 $ 1.80 $ 1.40 $ 1.25 - 34.2%
Pound of Round Steak 90.5? $ 1.04 $ 1.14 $ 1.81 +100.1%
Pound of Chicken 61.2? 46.5? 39.8? 55.7? - 9%
Roundtrip Airfare
New York-San Francisco $286.30 $ 208 $ 290 $ 346.30 + 21.0%
Median Family Income
* Projected
Source: New York Times and Official Airline Guide
131
Exhibit 3
AVERAGE FARH PER PASSENGER MILE
INDEX 1938=100
(Constant Dollars)-'
1/ Deflated by Implicit Deflator - GNP, Adjusted to 1938 Base.
2/ 1974 Data for First Nine Months.
132
Exhibit 4
AVERAGE AIR FREIGHT RATES PER TON MILE
DOM' S lie OPICRATIONS
U. .^^riTT'TJUT.TTi" AiUi.lNI'S
(1940 Constant Dollars)I7
AVERAGE
REVENUE
PER TON 15
MILE
\ I j ' '
1960
YEAR
1/ Deflated by Implicit Deflator - GNP, Adjusted to 1946 Bas
2/ 1974 Yield for First Nine Months.
133
Exhibit 5
DISTRIBUTION OF TRUNK AIRLINES SCHEDULED COACH FARES
YEAR ENDED SEPTEMBER 30, 1974
48 STATE DATA
Revenue Passenger
Fare Type Miles (OOP, OOP)
TOTAL FULL FARE
TOTAL DISCOUNT
Youth Standby
Youth Reservation
Family
Discover America
Military Standby
Military Reservation
Group
Child
Excursion
Other
TOTAL 95,820 100.0 6.99
Source: Monthly carriers submission to the Civil Aeronautics Board.
65
, 132
30
,688
121
797
6,
, 598
3,
,957
738
2,
.555
1,
372
1,
683
1,
18P
11,
687
95,
820
Percent of
Total
Yield
(C per RPM)
68.0
7.59
32.0
5.71
0.1
6.12
0.8
6.97
6.9
6.88
4. 1
5.75
0.8
3.80
2. 7
5.32
1.4
5.77
1.8
4.76
1.2
5.59
12.2
5.30
134
Exhibit 6
INCOME CHARACTERISTICS OF ADULTS
WHO HAVE FLOWN ON REGULAR PASSENGER AIRLINE
Percent Within Each
Income Group Who
Annual Have Flown During
Family Income Past 12 Months
Percent of Adults Making
One or More Air Trips
During Past 12 Months
By Income Group
$15, 000 and over 41
$10,000 - $14, 999 22
$ 7, 000 - $ 9,999 16
Less than $7,000 15
46
24
18
Undesignated
TOTAL
100
Source: The Gallup Organization, Inc. , The Incidence of
Air Travel Among the General Public. 1974
135
Exhibit 7
1974 LOAD FACTORS
NON-STOP SERVICES -- BOSTON-DETROIT MARKET
Load Factor
(%)
January 54
February 53
March 58
April 64
May 67
June 67
July 58
August 63
September 59
October 59
November 53
December* 52
Average 59
"^ Estimated
Source: Company records of carrier.
136
Exhibit 8
DISTRIBUTION OF AIRLINE
PASSENGER TRAFFIC BY NUMBER
OF CITY PAIRS
(Year Ended June, 1974)
Percent of Total Number of
Passenger Miles City Pairs
10% 7
20% 30
30% 70
40% 145
50% 272
60% 494
70% 908
1/
100% 58,000 (Approx.)
1/ Includes markets partially served by commuter
airlines when a part of a trip for which a certifi-
cated carrier sells the ticket.
Source: CAB, Origin-Destination Survey of Airline
Passenger Traffic - Domestic^ Second
Quarter 1974.
137
Exhibit 9
PERCENT OF TRANSPORTED PASSENGERS WHO ARE .
NOT THROUGH OR CONNECTING, BY FLIGHT DISTANCES-^
(For City Pairs with Non-Stop Service)
Mileage
All Mileage 43.4
Less than 100 miles 9.6
100 to 199 miles 25.6
200 to 299 miles 39.0
300 to 399 miles 44.1
400 to 499 miles 43.0
500 to 599 miles 43.8
600 to 699 miles 51.3
700 to 799 miles 50.2
800 to 899 miles 54.1
900 to 999 miles 60.8
1, 000 to 1, 499 miles 75.2
1, 500 to 1, 999 miles 55.8
2. 000 miles and over 92. 1
1/ Excludes city pairs with fewer than 2, 500
nondirectional O&D passengers (approximately
6.8 per day).
Source: CAB, the Domestic Route System; Analysis
and Policy Recommendations, October, 1974.
138
Exhibit 10
ATA AIRLINE COST INDEX
U.S. TRUNKS AND LOCAL SERVIC^ CARRIERS
3 Qtr. 1974
INDEX
(1967=100)
LABOR 192.4
(Employment Cost
Per Employee)
CAPITAL 153.7
(Interest on Long Term Debt)
FUEL 250.9
(Cost Per Gallon)
PA SSE NGER FOOD 125.3
(Cost Per Revenue
Passenger Mile)
ADVERTISING & PROMOTION 92. 1
(Cost Per Revenue Ton Mile)
LANDING FEES 229.2
(Cost Per Aircraft Ton Landed)
AIRCRAFT MAINTENANCE
MATERIALS 91.8
(Cost Per Available Ton Mile)
TRAFFIC COMMISSIONS-
PASSENGER 199.3
(Cost Per Revenue
Passenger Mile)
ALL OTHER 146.5
(Implicit Deflator - GNP)
COMPOSITE 174.5
Percent
Change Over
3 Qtr. 1973
7.3
102.3
i.5
( 2.9)
17.
10.4
Percent of
Total Cash
Operating
Expensesi.'
40.7
3.3
18.9
3.6
2.5
2.9
22.2
100.0
1/ Total Operating Expenses plus Interest on Long Term Debt
~ Less Depreciation and Amortization.
139
ATA STUDY ON DEREGULATION
[In a letter dated February 7, 1975 the chairman of the subcommittee
made more explicit a request of Dr. James for a list of routes that would
be eliminated under more competitive conditions. On April 3, 1975
the Air Transport Association submitted to the subcommittee a reply
extending more than 200 pages. The chairman then requested evalua-
tions of this ATA study from the U.S. Department of Transportation,
the Council of Economic Advisers, the Council of Wage and Price
Stability, the General Accounting Office, Prof. John W. Drake, Purdue
University, Prof. Theodore E. Keeler, University of California at
Berkeley, Prof. Sam Peltzman, University of Chicago, Prof. Roger
Sherman, University of Virginia, and Prof. Andrew Whinston,
Purdue University. Their replies follow the ATA study in that order,
p. 379 ff., below except that the replies of DOT and GAO are printed
at the end of the record of the day of hearings of March 4, 1975, p.
2285 ft'., below, because they were received too late for inclusion here.]
U.S. Senate,
WasJimffton, B.C., February 7, 1975.
Mr. George W. James,
Air Transport Association,
Washington, B.C.
Dear Mr. James : Thank you again for appearing before the Subcommittee on
Administrative Practice and Procedure last Thursday. Your testimony and state-
ment were very lielpful.
As I mentioned at the hearing I should appreciate receiving further detailed
specific factual information from you concerning the following questions :
1. You expressed a fear that under a more competitive system, airlines might
abandon unprofitable routes, severely curtailing service to many communities.
Would you please provide a list for us of those city-pairs that are now unprofit-
able and might be abandoned. In preparing that list, you should specify those
city-pairs of which the cost of serving exceeds the incremental revenues generated.
I ask that you proceed on an incremental cost basis because I believe that, in
competitive industries, services and products are provided so long as incremental
revenues exceed incremental costs. Of course, if you wish to proceed on some other
accounting basis, please feel free to do so (but I should then appreciate an
appropriate explanation).
2. It may be that the "feeder" line argument you made in your testimony
amounts to more than a simple cross-subsidy argument. If so, will you please
explain it more fully and provide empirical support ?
3. It has also been argued that a competitive airline system (of the sort DOT
suggested) would be a less safe system. If you hold this view, would you please
provide documentary support for it?
We should very much appreciate receiving this information before our last
hearing day on March 4. as we shall then begin to write our report.
Thank you very much.
Sincerely,
Edward M. Kennedy,
Chairman, Subcommittee on Administrative Practice and Procedure.
Air Transport Association of America,
Washington, D.C., April 25, J 97 5.
Hon. Edward M. Kennedy,
U.S. Senate,
Washington, B.C.
Dear Senator Kennedy : During my testimony to your Subcommittee on Ad-
ministrative Practice and Procedure, and subsequently by letter, you requested
specific information on the impact of deregulation on the present scheduled air
transportation network. You asked us to identify present scheduled routes where
140
service might be reduced or eliminated if each airline could set its own prices and
could enter or exit any market at will. Additionally, you requested further ex-
planation of the "feeder line" argument and some comments on safety under
deregulation.
The attached report represents the results of the analysis that ATA performed
in response to your requests, and includes the application of a computerized
analysis of the large interrelated domestic trunk carrier system. We believe this
information may represent the first aggregate analysis of its kind. Results of
the analysis reveal the adverse impact on scheduled air service that might take
place under the assumption of total deregulation that we were asked to make.
As we have discussed with members of your staff, our analysis shows that
under deregulation scheduled air service might be eliminated or substantially
reduced on 1,820 nonstop routes throughout the nation. A list of these routes is
attached. The 1,267 nonsubsidized routes of the regional carriers were not in-
cluded in this study.
Currently, trunk carriers serve 994 nonstop routes. Of these, 372 could be
candidates for elimination under deregulation, while nearly all of the remaining
622 could experience sharp curtailment of service. Although a similar analysis
has not been applied to the regional carriers, we have identified S26 of their non-
stop routes as currently receiving direct subsidy under regulatory procedures.
It is conceivable that the 1,198 unprofitable, and subsidized, routes might not
survive in a deregulated environment except in limited instances as an adjunct
to more profitable routes or under large subsidy payments by cities or the Federal
Government.
Enclosed are maps of each of the 48 contiguous states and the District of Co-
lumbia with an identification of each of the routes that could be jeopardized as
well as a tabular listing of these routes.
Although each of the 1,198 routes would be a candidate for elimination under
deregulation, it is recognized that some might be held for such reasons as feed-
ing heavier travelled routes or aircraft positioning. Some also might be served
by smaller commuter airlines. However, where such routes would remain, there
would be a service instability not present today because carriers would view these
routes as marginal and would probably move in and out as circumstances dictated.
Our analysis has also been extended to determine the impact on levels of serv-
ice in a situation where significant fare reductions are made. We have done this
for the domestic trunk system. The findings show, for example, that where fares
are reduced 20 percent, the unprofitable routes rise from 372 to 564.
Some have contended that deregulation could occur while subsidy remained.
In contrast with today's subsidy level of less than $70 million for regional car-
riers only, we estimate that subsidy costs under deregulation could run as high
as $1 billion annually.
The analysis you requested has produced data shedding new light on load
factors. The analysis shows, for example, that to raise the average system load
factor from 55-60 percent, solely by eliminating the lowest load factor routes,
could require dropping as many as 144,000 monthly flights, or 37 percent of all
flights flown. If eliminating unprofitable routes were the only criteria for raising
load factors, the data show that approximately 20,000 monthly flights, or 9 per-
cent of the route system, would need to be abandoned.
One final point of interest in the analysis is that 33 of the largest 100 markets
of the scheduled carriers had load factors in the 60-85 percent range. PSA's load
factor on the Los Angeles/San Francisco route during this time period was 60.9
percent. Similarly, if interstate scheduled carriers served only the 33 interstate
high load factor routes, they could operate more profitably and at lower fares.
However, service in the present U.S. 58,000 city-pair network would be shattered.
We appreciate this opportunity to present relevant information regarding the
public service impact of deregulation. We had hoped that this information will
be reflected in the Subcommittee's report.
Sincerely,
George W. James,
Senior Vice President-Economics and Finance.
Attachment.
141
CONSEQUENCES OF DEREGULATION
OF THE SCHEDULED AIR TRANSPORT INDUSTRY
An Analytical Approach
S
A study in response to questions posed by the
Chairman, Senate Judiciary Subcommittee
on Administrative Practice and Procedure
conducted by
The Air Transport Association of America
APRIL. 1975
143
TABLE OF CONTENTS
Question No. 1
From the Subcommittee Chairman, regarding
abandonment of unprofitable routes 1
Question No. 2
From the Subcommittee Chairman, regarding
"feeder" lines and cross subsidy 10
Question No. 3
From the Subcommittee Chairman, regcirding
the effect of deregulation on safety 12
Indirect Cost Factor Derivation
(Including Designation of Marginal Cost Elements)
Exhibit B
U.S. Scheduled Airline
1973 Routes (city-pairs) Risking
Loss of Service as a
Consequence of Deregulation
(In Order from the Least to
the Most Unprofitable)
City-Pairs Risking Loss of Service
By State
City-Pairs Risking Curtailment of Service
By State
144
CONSEQUENCES OF DEREGULATION - AN ANALYTICAL APPROACH
Question No. 1
From the Subcommittee Chairman
"You expressed a fear that under a more competitive
system airlines might abandon unprofitable routes,
severely curtailing service to many communities.
Would you please provide a list for us of those city
pairs that are now unprofitable and might be abandoned.
In preparing that list, you should specify those city
pairs of which the cost of serving exceeds the incre-
mental revenues generated. 1 ask that you proceed on
an incremental cost basis because 1 believe that, in
competitive industries, service and products are pro-
vided so long as incremental revenues exceed incremental
costs. Of course, if you wish to proceed on some other
accounting basis, please feel free to do so (but I should
then appreciate an appropriate explanation).
There are several significant ways to examine incremental revenue
and incremental cost on the U. S. domestic airline system, including:
1. Use of macro-theoretical models of the airline industry;
2. Examination of past experience with unregulated airline markets;
3. Employment of a detailed analytical framework that simulates
each element of the actual airline system.
The first approach (use of macro-theoretical models), though perhaps
intellectually elegant, has the disadvantage that it cannot be validated --
conclusions cannot be tested against reality. Policy recommendations based
on this approach are extremely risky, because results of an altered air trans-
port system could easily be quite different from those predicted by the model
builders, and costs to rectify unforeseen consequences could be enormous.
The second approach (examination of past experience) is limited by
the paucity of such experience: the pre- 1938 era in the United States, or the
pre- 1965 era of intra- California air transport. While the chaos experienced
in both periods represents a useful point of comparison with the current
stable regulated environment nationally and in California, in many respects
both periods are incomplete for current analogy.
145
The third approach, involving a detailed route-by-route examination
of the existing system, has been chosen as the best way to meet the short-
comings of the other two approaches. ATA, utilizing an existing computer
simulation*, has analyzed the entire domestic trunk industry for the 48
contiguous states for 1973. Broad conclusions of the study show that, of
the 994 trunk non-stop routes, 622 were profitable and 372 (or 37%) were
unprofitable. The 372 unprofitable routes are prime candidates for aban-
donment under deregulation, recognizing that some of them might be retained
for such purposes as providing feeder service and positioning of aircraft.
Some also might be served by smaller commuter airlines.
In contrast. United Airlines, in a letter to the Chairman of the Senate
Subcommittee on Administrative Practice and Procedure, pointed out the
results of a similar analysis on its route system showing 50% of its non-stop
routes were unprofitable.
Airline System Simulation
A computer program known as the Airline System Simulation, which
was developed by and is the property of the Lockheed Aircraft Corporation,
was used in producing a substantial portion of the results of this report.
The Airline System Simulation is the result of extensive research in
concepts and methods, many discussions with airline representatives, and
participation by one major trunk airline. It has been used in studies for air-
lines, the United States Government, and Lockheed. These studies have
included investigations of the compositions of fleets, the assignment of flights,
the economics of the supersonic transport (SST), and the design of the L-1011.
The simulation has been in continuous use since 1961. It is important
to note that no changes were made in the Lockheed model in order to perform
the simulation of this study.
The srnulation is a comprehensive program that gives explicit
consideration to such concepts as mixed aircraft types on a route, route
interaction, and generation and allocation of demand, all of which are ex-
plained in detaL in the attached booklet on the Lockheed Simulation Model.
Figure 1 is a summary of the concepts used in the model.
* The Lockheed Airline System Simulation, booklet attached.
51-146 O - 76
146
MAXIMUM EARNINGS
• COMPETITION
• REGULATION
FLISHT ASSIGNMENT &
FLEET COMPOSITION
AIRLINE SYSTEM SIMULATION - SUMMARY
Data Used and Comparative Results
Virtually all of the 48 state scheduled domestic trunk passenger
airline system for the calendar year 1973 was used in this study. 994 non-
stop route segments were included in the simulation. Where both trunk and
regional airlines serve the same segment, their traffic is included in the
segment total.
The following types of aircraft were used in the study as representa-
tive of the actual fleet mix in 1973:
B-747
L-lOll/DC-10
DC-8-61
B-707-300B/DC-8
B-727-200
DC-9-30/B-737
DC-9-10
147
Since all passenger aircraft carry significant amounts of cargo,
this source of revenue and cost was included in the study. CAB Form 41
data were converted to an average amount of cargo per passenger. These
data ranged from 42 pounds per passenger in the B-747 to 27 pounds per
passenger in the DC-9-10. The overall domestic cargo yield for U.S.
trunk carriers in 1973 of 25.6 cents per ton mile was used. All-cargo
aircraft are not included in the study.
This simulated representation captured 97.8 per cent of the revenue
passenger miles as reported in Form 41 to the Civil Aeronautics Board (CAB).
The remaining RPM's were contained in seasonal markets (those served less
than ten months per year) and flight diversions due to weather or equipment
problems.
As additional points of comparison, a yield of 6. 37 cents per :-evenue
passenger mile was achieved from the simulation. This compares favorably
with the CAB Form 41 figure of 6. 38 cents. The average flight segment
length produced by the simulation was 580 statute miles. The CAB Form 41
data reports 577.
Methodology Employed
The Lockheed Airline System Simulation operates through a sequential
process of adding flights to the system by following much the same logical pro-
cess employed by airline planning staffs in developing their schedule plans.
Development of a schedule plan begins with the initial assumption of no flight
operations and no aircraft, but with a set of possible routes on which to use
the aircraft. The economic impact of each possible aircraft/route combina-
tion is examined in sequence as shown in Figure 2. Initially, determination
is made of the individual increments of passenger operating revenue and
operating costs which would result from adding a flight to each possible route-
with each possible aircraft type. The flight addition that would produce the
greatest difference between the increment of revenue and increment of cost
is then added to the system. This process is iterated each time through the
994 route segments before a flight is added.
The costs used in the flight selection process consist of only those
costs directly affected by the addition of a single flight (Figure 3 and Exhibit A).
However, the total costs of operating at any given scale of operation consist
of the marginal costs plus those other costs that are affected only by an over-
all scale of operations, i.e.. system costs. * Therefore, after each flight
addition is made on the basis of marginal costs, total operating costs are
adjusted to include the additional system costs.
* In the context used here marginal and system costs equal fully
allocated or total costs.
148
OLUtt
149
^
,'*«
150
FIGURE 3
MARGINAL COSTS
Flight Crew Cabin Attendant Salary
Fuel and Oil and Related Expense
Direct Maintenance Other Passenger Services
Insurance Aircraft Handling
Depreciation Aircraft Control
Local Expense Landing Fees
Labor - Ground Prop. & Equip. Passenger Handling
Labor - Other Services Baggage Handling
Maintenance Materials Passenger Commissions
Food and Beverages
The selection and updating process is continued until no flight, either
in the form of an added frequency on a route already selected for service or
a first flight on a route as yet unserved, can be added to the system and pro-
duce an increment of revenue greater than the required increment of marginal
cost. Thus, at this point, the system consists only of those services that will
produce a maximum operating profit.
An examination of the composition of the system as it would exist at
maximum operating profit requires several important observations:
1. No airline presently operates at or near this point;
2. Load factors at this point would be about 80%. Therefore, large
numbers of people desiring service during peak periods of the
day, week, and season would be unable to travel by air;
3. Many routes that are now being served would receive no service;
4. Many other routes would receive less frequent service than
currently provided.
Results of ATA Study
Application of the Model.
The simulation model produces an ordered list of non-stop routes
served, starting with the most profitable route/aircraft combination, and
adding flights until all profitable flights are listed in decreasing order of
profitability. The simulation then continues to list unprofitable flights,
starting with the least unprofitable and proceeding to the most unprofitable.
151
From this listing, it is possible to construct a graph of system
earnings versus number of flights (Figure 4), depicting the earnings per
day for each level of service. Figure 4 shows that, as more and more un-
profitable flights are added to the system, daily earnings and load factors
decrease.
Figures 5A, 5B, 5C, and 5D depict the U.S. trunk 48-state system,
divided into four subsystems employed in the simulation, and Figure 6 repre-
sents the 372 currently served non-stop trunk routes identified by the simulation
as unprofitable and consequently risking loss of service in the event of deregu-
lation. These 372 unprofitable routes are tabulated in Exhibit B. Figure 7
sets forth the 826 subsidized regional carrier markets that would also risk
loss of service in a deregulated environment.
Thus, in the event of deregulation, routes appearing in Figures 6 and
7 can be considered as prime candidates for abandonment. Not included are
other unprofitable markets currently served by regional carriers and not
eligible for subsidy.
Exhibit C presents the unprofitable and subsidized routes on a state-
by-state basis.
Exhibit D lists all profitable routes in the trunk system, showing the
reduced level of service that might be experienced with a maximum earnings
objective.
Effect of Fare Reductions
In addition to consideration of the system under 1973 fare levels, the
analysis was extended to explore conditions where these levels were reduced
10 and 20%.
Results of running those two hypothetical cases are shown in Figi.
The upper curve is identical to Figure 4, indicating the results of 1973 opera-
tion at 1973 yields. Other curves show the results which could have been
expected in 1973 if fares had been reduced 10% and 20%, respectively.
Figure 9 demonstrates these results in tabular form --as fares
decrease, the maximum earnings and number of profitable flights are lower.
Further, if fares were reduced 10%, there would be an increase in the number
of unprofitable routes from 372 to 471. In the case of 20% fare reduction, un-
profitable routes rise from 372 to 564.
152
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FIGURE 9
SOME EFFECTS OF REDUCED FARES
Maximum
Number of
Number of
Daily
Profitable
Unprofitable
Yields
Earnings
(Millions)
Flights
Non-Stop Routes
1973 Yields
$5.5
2.500
372
10% Reduct
:ion
4.3
2.170
471
2 0% Reduction
3.1
1,978
564
In making these simulation runs, it was assumed that elasticity of
demand was -1.2. This figure is the assumption for discount fares only
adopted by the Civil Aeronautics Board in its computation of the adjusted
return on investment. The CAB elasticity factor for all fares, however, was
-0. 7. For purposes of this analysis only, to test the hypothesis that a dis-
proportionate increase in demand would still reduce service, it is assumed
that a 10% decrease in fares would result in a 13% increase in demand, and
a 20% decrease would result in a 31% increase in demand. *
The results of examining the system at 10% and 20% yield reduction
show that lowering of fares, for example, by new competitors free of regula-
tory restraint, would increasingly result in economic pressures to abandon
unprofitable routes. Further, the number of candidates for discontinuation
of service increases as fares decrease.
Load Factors
It should be emphasized that the ATA study demonstrates that achieve-
ment of high load factors is not necessarily consistent with a high level of
service to communities across the nation. For example, two ways of achieving
higher system load factors would be to remove service to those communities
with the lowest load factors and/or abandon unprofitable routes.
• Abandonment of lowest load factor flights. In order to determine the
impact of this method of raising system load factors from 55% to 60%,
ATA arrayed all flights for August, 1973, from lowest to highest load
factors, using segment data (ER-586) for trunk and local service air-
lines. Figure 10 is a summary of these data.
System load factor for that month was 55, 7%. In order to raise the
system load factor to 60%, it would have been necessary to eliminate
144.000 flights during the month, or 37% of all flights (Figure 11).
This uses the CAB calculation of elasticity impact.
161
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162
ANALYSIS OF FLIGHT/SEGMENT LOAD FACTORS
U.S. Certificated Airlines
48 State Services
August, 1973
Number of Flights Requiring Elimination From Lowest Load
Factors to Raise System Average From 55. 7% to:
Number
Percent
Highest
of
of All
Load Factor
Flights
Flights
Remaining
60%
144.000
37.0
49.3%
65%
226.000
58.1
56.0%
70%
296.000
76.1
62.2%
75%
340.000
87.3
6 7.5%
80%
365.000
93.7
7 3.2%
Notes: (1) Average load factor for the segment is used for
each flight flown on that segment.
(2) Segments with less than four services per month
not included.
163
The remaining system would exclude flights for which the average
monthly load factor was 49.3% or less. To raise the system load
factor to 65%. a total of 226,000 flights (or 58. 1% of all flights)
would have had to be eliminated. At 65% load factor, flights with
average monthly load factor of 56% or lower would be eliminated.
These data do not take into account the fact that some of the traffic
on discontinued flights would be diverted to other flights. Some
segments, however, would lose all service.
An illustration of a typical monthly distribution of load factors is
shown in Figure 12, using the August, 1973 data.
• Abandonment of the most unprofitable flights. Use of the Lockheed
Airline System Simulation makes it possible to determine the impact
of raising load factors by eliminating the most unprofitable flights.
If trunk airlines were to pursue this policy alternative, approximately
20,000 monthly flights, or 9% of total trunk service, would be aban-
doned in order to raise load factors to 60%. 41, 000 monthly flights
would be eliminated to reach a 65% load factor.
A significant consideration with respect to the impact of high average
load factors on public service is the problem of unserved demand. Experience
with airline reservations systems makes it clear that some passengers cannot
obtain confirmed reservations on flights that finally depart with 80% load
factors. This phenomenon results from the practice of passengers booking
reservations and failing to cancel if the reservations are not used. In this
case other passengers will have been turned down because the flight appeared
to be fully booked. During peak vacation periods, this situation is particularly
acute.
Previous analysis has shown that increasing average load factors would
result in curtailment of service. But average load factors do not fully account
for the extent to which the public is inconvenienced. Examination of actual
monthly flight load factor data, in a special ATA study, shows that, even with
average route load factors' as low as 40%, many individual flights on these
routes carry load factors in the 70 to 90% range. This means that, at certain
times of the day and on certain days of the week, hundreds of passengers are
turned away on flights of their choice even though, on the average for the
month, 60% of the seats in the system are empty. Demand is highly peaked
by hour of the day, by day of the week, by season, and by direction.
These findings demonstrate that passengers must forego travel or
change their plans to travel at less convenient times even when load factors
are at a system average of 55%.
164
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Conclusions
Currently U.S. scheduled trunk and regional carriers serve 3,087
non-stop routes which link 58,000 city pairs throughout the U.S. Of these,
1. 158 (or 37.5%) are unprofitable and risk abandonment under deregulation.
Nearly all of the remaining 1,929 routes might well experience significant
reduction in service.
Where certain of the unprofitable or subsidized routes might be held
for such purposes as providing feeder traffic, aircraft positioning, or market
growth, or might be served by smaller commuter airlines, these routes could
be subject to instability not present today, since carriers would be competing
for them as marginal routes and would move in and out as current circum-
stances dictated.
Attempting to subsidize these routes, to try to maintain today's level
of service, could require as much as a billion dollars.
Further, raising average system load factors has a public service
penalty attached to it. Most particularly, this occurs with an increase in
denied service during certain daily, weekly, and monthly peak periods.
Accordingly, as this study demonstrates, under a deregulated system
the level of service available to the public could be markedly reduced.
166
Question No. 2
From the Subcommittee Chairman
"it may be that the 'feeder' line argument you
made in your testimony amounts to more than
a simple cross subsidy argument. If so, will
you please explain it more fully and provide
empirical support?
As the question implies, the concept of cross subsidization* appears
simple at first glance. In practice it is complex, and the variety of attitudes,
beliefs, and opinions on the subject reflected in the testimony before the
Subcommittee amply demonstrate that complexity.
The single essential point that must be understood is that a form of
cross subsidy begins when a system exists with only one non-stop route.
Costs of operating a route vary by time of day, season of the year, weather
conditions, and by many other factors. Thus, to completely eliminate the
effect of cross subsidization is not possible on one non-stop route in each
system, let alone on an entire system.
The efficient deployment of aircraft and other airline resources
across the national air transportation network requires their use on a com-
bination of non-stop, multi- segment, and connecting routes where the optimum
application of resources is normally not possible. For example, an aircraft
can seldom be operated on the optimum distance for which it was designed.
When it is, however, per mile costs are less than on its other routes, and
a form of cross subsidy occurs.
As ATA reported in its February 6 testimony before the Subcommittee,
the national air transportation system is comprised of many connecting and
through flights, constituting a network of service throughout the 58, 000 city
pairs served by scheduled airlines. These connecting and one-stop and multi-
stop flights exist in part because segments (connecting or through) that may
be individually unprofitable can be combined to make a total profitable flight.
Consider three cities -- A, B, and C -- and suppose that traffic between
each of the three pairs (AB, BC, AC) is too light to justify even a single
daily flight. If, however, one flight is operated from A to B to C. the seg-
ment from A to B may still be unprofitable but the segment from B to C,
bolstered by traffic from A destined for C, may now be profitable enough to
make the flight as a whole profitable. In such a situation, it could be said
that passengers destined from B to C subsidize passengers destined from
A to B. But what about passengers destined from A to C? They are
"recipients" on one segment (A to B) and "donors" on the other (B to C).
Sometimes viewed as "internal subsidization
167
Availability of a high degree of scheduled frequency to communities,
large, medium, and small in terms of population across the nation, is un-
paralleled in the world. The operation of this network, however, requires
a high percentage of multi-stop and connecting flights. Approximately 70%
of scheduled carrier operations involves multi-stop flights.
Every passenger or shipper using the comprehensive, integrated
system receives a clear economic benefit flowing from that system -- the
ability of anyone to get almost anywhere in the country on a regularly
scheduled basis, on business, on personal emergency, or for any other
reason.
The effect of cross subsidy, therefore, is to render operable an
essentially self-supporting, comprehensive, integrated national air trans-
portation system. Without it, that system would disintegrate. If the many
smaller or medium sized communities now receiving service through con-
necting or through flight feeder operations are to receive adequate service,
absent the present self-supporting system self-financed by cross subsidy,
large direct subsidies would be required in order to provide service at the
levels now available.
168
Question No. 3
From the Subcommittee Chairman
"it has been argued that a competitive airline
system (of the sort DOT suggested) would be a
less safe system. If you hold this view, would
you please provide documentary support for it?
The impact of deregulation on safety is not susceptible to ready
measurement and one cannot predict with certainty what that impact might
be.
In light of the consequences of the operation of a less stable air
transport industry resulting from deregulation and related shifts in service
patterns, one must presume that the Federal Aviation Administration would
continue to take all actions necessary in the public interest to assure the
highest possible level of safety for all operations within its statutory
jurisdiction.
EXHIBIT A
INDIRECT COST FACTOR DERIVATION
(INCLUDING DESIGNATION OF MARGINAL COST ELEMENTS)
170
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EXHIBIT B
U. S. SCHEDULED AIRLINE
1973 ROUTES (CITY-PAIRS) RISKING
LOSS OF SERVICE AS A
CONSEQUENCE OF DEREGULATION
(IN ORDER FROM THE LEAST TO
THE MOST UNPROFITABLE)
172
Page 1
1.
ATL-CAE
2.
MCO-MIA
3,
JAN- MS Y
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5.
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CHS-JAX
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CMH-PIT
11.
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12.
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14.
JAX-TPA
15.
ABE- WAS
16.
ATL-TYS
17.
DAL- SAT
18.
BNA-TYS
19.
CLE-CVG
20.
DTW-MKE
21.
CRW-CVG
22.
CRW-PIT
23.
LEX-TYS
24.
ATL-AVL
25.
EVV-STL
26.
CHS-CLT
27.
MCI-STL
28.
PHX-SAN
29.
CMH-DTW
30.
ALB-NYC
31.
LIT-MEM
32.
ORD-STL
33.
IND-STL
34.
DTW-IND
35.
DSM-MSP
36.
MCO-PBI
37.
CLE-SBN
38.
ORE- WAS
39.
DTW-ORD
40.
EVV-IND
Tex.
Tex.
Atlanta, Ga.
Orlando, Fla.
Jackson/Vicksburg, Miss,
West Palm Beach, Fla.
Des Moines, Iowa
Allentown, Pa.
Grand Forks. N. D.
Newport News, Va.
Charleston. S. C.
Columbus, Ohio
Baltimore, Md.
Boise, Id.
Dallas/ Ft. Worth,
Jacksonville, Fla.
Allentown. Pa.
Atlanta. Ga.
Dallas/ Ft. Worth.
Nashville, Tenn.
Cleveland, Ohio
Detroit, Mich. (Metropolitan)
Charleston, W. Va.
Charleston, W. Va.
Lexington, Ky,
Atlanta, Ga.
Evansville, Ind.
Charleston. S.C.
Kansas City. Mo.
Phoenix. Ariz.
Columbus. Ohio
Albany. N.Y.
Little Rock, Ark.
Chicago, 111. (O'Hare)
Indianapolis, Ind.
Detroit, Mich. (Metropolitan)
Des Moines, Iowa
Orlando, Fla.
Cleveland, Ohio
Norfolk. Va.
Detroit, Mich. (Metropolitan)
Evansville, Ind.
Columbia, S.C.
Miami. Fla.
New Orleans. La.
Tampa, Fla.
St. Louis, Mo.
Cleveland, Ohio
Minneapolis/St. Paul. Minn.
Washington. D.C.
Jacksonville. Fla.
Pittsburgh. Pa.
New York, N.Y.
Salt Lake City, Utah
Houston, Tex.
Tampa, Fla.
Washington, D.C.
Knoxville, Tenn.
San Antonio, Tex.
Knoxville, Tenn.
Cincinnati. Ohio
Milwaukee. Wis.
Cincinnati. Ohio
Pittsburgh. Pa.
Knoxville. Tenn.
Asheville, N.C.
St. Louis, Mo.
Charlotte, N.C.
St. Louis, Mo.
San Diego, Calif.
Detroit, Mich, (Metropolitan)
New York, N.Y.
Memphis. Tenn.
St. Louis. Mo.
St. Louis, Mo.
Indianapolis. Ind.
Minneapolis/St. Paul. Minn,
West Palm Beach. Fla.
South Bend. Ind.
Washington. D.C.
Chicago, 111. (O'Hare)
Indianapolis, Ind.
173
Page
41.
DAL-TUL
42.
CLE-IND
43.
BUF-SYR
44.
AGS-ATL
45.
CVG-ORD
46.
NYC-PVD
47.
IND-ORD
48.
ATL-MGM
49.
DAY-ORD
50.
GEG-GTF
51.
NYC-ORH
52.
BOI-GEG
53.
MCI-TUL
54.
MCI-SGF
55.
CLE-GRR
56.
IND-SDF
57.
PHL-WAS
58.
ATL-GSP
59.
lAH-SAT
60.
FSM-LIT
61.
JAN-MLU
62.
MIA-MLB
63.
MBS-ORD
64.
JAX-TLH
65,
CVG-SDF
66.
CLT-RDU
67.
DAY-DTW
68.
CID-ORD
69.
MOB-MSY
70.
ATL-BHM
71.
SBA-SFO
72.
RDU-RIC
73.
CLE-FWA
74.
BNA-SDF
75.
MLI-OMA
76.
DAL-OKC
77.
BAL-RDU
78.
ELP-TUS
79.
JAX-MCO
80.
A US -DAL
Dallas/ Ft. Worth. Tex.
Cleveland, Ohio
Buffalo, N.Y.
Augusta, Ga.
Cincinnati, Ohio
New York, N.Y.
Indianapolis, Ind.
Atlanta, Ga.
Dayton, Ohio
Spokane, Wash.
New York, N.Y.
Boise, Id.
Kansas City, Mo.
Kansas City, Mo.
Cleveland, Ohio
Indianapolis, Ind.
Philadelphia, Pa.
Atlanta, Ga.
Houston, Tex.
Ft. Smith, Ark.
Jackson/ Vicksburg, Miss.
Miami. Fla.
Saginaw, Mich.
Jacksonville, Fla.
Cincinnati, Ohio
Charlotte, N.C.
Dayton, Ohio
Cedar Rapids /Iowa City, la.
Mobile, Ala.
Atlanta, Ga.
Santa Barbara, Calif.
Raleigh/ Durham, N.C.
Cleveland, Ohio
Nashville, Tenn.
Moline, HI.
Dallas/ Ft. Worth. Tex.
Baltimore, Md.
El Paso. Texas
Jacksonville, Fla.
Austin, Tex.
Tulsa, Okla.
Indianapolis, Ind.
Syracuse, N.Y.
Atlanta, Ga.
Chicago, 111. (O'Hare)
Providence, R.I.
Chicago, 111. (O'Hare)
Montgomery, Ala.
Chicago, 111. (O'Hare)
Great Falls. Mont.
Worcester, Mass.
Spokane, Wash.
Tulsa, Okla.
Springfield, Mo.
Grand Rapids, Mich.
Louisville, Ky.
Washington, D.C.
Greenville/Spartanburg, S.C.
San Antonio, Tex.
Little Rock. Ark.
Monroe, La.
Melbourne, Fla.
Chicago, 111. (O'Hare)
Tallahassee, Fla.
Louisville, Ky.
Raleigh/ Durham, N.C.
Detroit, Mich. (Metropolitan)
Chicago, 111. (O'Hare)
New Orleans, La.
Birmingham, Ala.
San Francisco, Calif.
Richmond, Va.
Ft. Wayne, Ind.
Louisville, Ky.
Omaha, Neb.
Oklahoma City, Okla.
Raleigh/Durham, N.C.
Tucson, Ariz.
Orlando, Fla.
Dallas /Ft. Worth, Tex.
174
Page 3
81.
ICT-MCI
Wichita. Kan.
Kansas City. Mo.
82.
ORD-TOL
Chicago. Ul. (O'Hare)
Toledo. Ohio
83.
FLL-MCO
Ft. Lauderdale, Fla.
Orlando, Fla.
84.
CLE-PIT
Cleveland. Ohio
Pittsburgh, Pa.
85.
ESF-SHV
Alexandria. La.
Shreveport, La.
86.
FNT-ORD
Flint. Mich.
Chicago, 111. (O'Hare)
87.
BAL-BDL
Baltimore. Md.
Hartford. Conn.
88.
CLE- DAY
Cleveland. Ohio
Dayton. Ohio
80.
MCI-OMA
Kansas City. Mo.
Omaha, Neb.
90.
LAS-SAN
Las Vegas. Nev.
San Diego. Calif.
91.
PFN-PNS
Panama City, Fla.
Pensacola. Fla.
92.
CRP-DEN
Casper, Wyo.
Denver. Colo.
93.
PHX-PSP
Phoenix, Ariz.
Palm Springs. Calif.
94.
JAX-SAV
Jacksonville, Fla.
Savannah, Ga.
95.
RIC-WAS
Richmond, Va.
Washington, D. C.
96.
DAL-MLU
Dallas/ Ft. Worth, Tex.
Monroe, La.
97.
CRP-IAH
Corpus Christi, Tex.
Houston, Tex.
98.
FSM-TUL
Ft. Smith, Ark.
Tulsa, Okla.
99.
PIT-ROA
Pittsburgh, Pa.
Roanoke, Va.
100.
CAE-CHS
Columbia, S. C.
Charleston. S.C.
101.
CMH-TOL
Columbus, Ohio
Toledo. Ohio
102.
MLI-ORD
Moline. m.
Chicago. 111. (O'Hare)
103.
BOS-PWM
Boston, Mass.
Portland. Maine
104.
FMY-MIA
Fort Myers, Fla.
Miami. Fla.
105.
DSM-MCI
Des Moines, Iowa
Kansas City, Mo.
106.
LAS- LAX
Las Vegas, Nev.
Los Angeles, Calif.
107.
AUS-IAH
Austin, Tex.
Houston, Tex.
108.
DAB-JAX
Daytona Beach, Fla.
Jacksonville, Fla.
109.
FAT -LAX
Fresno, Calif.
Los Angeles, Calif.
110.
MLU-SHV
Monroe, La,
Shreveport, La.
111.
CMH-IND
Columbus, Ohio
Indianapolis, Ind.
112.
LAN-ORD
Lansing, Mich.
Chicago, ni. (O'Hare)
113.
MLB-TPA
Melbourne. F.'a.
Tampa, Fla.
114.
FMY-TPA
Fort Myers. Fla.
Tampa, Fla.
115.
BNA-STL
Nashville. Tenn.
St. Louis, Mo.
116.
CLE-MBS
Cleveland. Ohio
Saginaw, Mich.
117.
EVV-SDF
Evansville. Ind.
Louisville, Ky.
118.
EEN-NYC
Keene. N. H.
New York, N.Y.
119.
ATL-CHA
Atlanta. Ga,
Chattanooga, Tenn.
120.
BDL-NYC
Hartford. Conn.
New York, N.Y.
175
Page 4
121.
BOS-BTV
Boston. Mass.
122.
ICT-OKC
Wichita, Kan.
123.
BFL-SFO
Bakersfield. Calif.
124.
MEM- PAH
Memphis, Tenn.
125.
AMA-ICT
Amarillo. Tex.
126.
DAL-ICT
Dallas /Ft. Worth, Tex.
127.
G EG- SEA
Spokane, Wash.
128.
LIT-SGF
Little Rock. Ark.
129.
ABQ-ELP
Albuquerque, N. M.
130.
FAR-MSP
Fargo, N.D.
131.
FWA-ORD
Ft. Wayne, Ind.
132.
FSD-MSP
Sioux Falls, S. D.
133.
DEN-GJT
Denver, Colo.
134.
MSN-MSP
Madison, Wis.
135,
CLE-LAN
Cleveland. Ohio
136.
GSO-RIC
Greensboro/High Point,
N.C,
137.
ICT-TUL
Wichita. Kan.
138.
BAL-PHF
Baltimore. Md.
139.
CLE-FNT
Cleveland, Ohio
140.
BAL-ORF
Baltimore, Md.
141.
BPT-SHV
Beaumont/ Port Arthur,
Tex.
142.
GRR-ORD
Grand Rapids. Mich.
143.
AVL-CRW
Asheville. N.C.
144.
OKC-TUL
Oklahoma City. Okla.
145.
ABQ-AMA
Albuquerque. N. M.
146.
CLE-CMH
Cleveland, Ohio
147.
ROC-SYR
Rochester. N.Y.
148.
FAT-SFO
Fresno. Calif.
149.
RNO-SFO
Reno. Nev.
150.
CHA-TYS
Chattanooga. Tenn.
151.
BTR-SHV
Baton Rouge. La.
152.
LBB-MAF
Lubbock. Tex.
153.
FSD-PIR
Sioux Falls, S. D.
154.
BTR-ESF
Baton Rouge, La.
155.
ELP-MAF
El Paso, Tex.
156.
GEG-MSO
Spokane, Wash.
157.
BHM-PNS
Birmingham, Ala.
158.
DAY-IND
Dayton, Ohio
159.
BGR-PWM
Bangor, Me.
160.
FSM-SHV
Ft. Smith. Ark.
Burlington, Vt.
Oklahoma City, Okla.
San Francisco, Calif.
Paducah, Ky.
Wichita, Kan.
Wichita, Kan.
Seattle, Wash.
Springfield, Mo.
El Paso, Tex.
Minneapolis/St. Paul. Minn.
Chicago, 111. (O'Hare)
Minneapolis/St. Paul, Minn.
Grand Junction, Colo.
Minneapolis /St. Paul, Minn.
Lansing, Mich.
Richmond. Va.
Tulsa. Okla.
Newport News, Va.
Flint, Mich.
Norfolk, Va.
Shreveport, La.
Chicago, III. (O'Hare)
Charleston, W. Va.
Tulsa. Okla.
Amarillo, Tex.
Columbus, Ohio
Syracuse. N. Y.
San Francisco. Calif.
San Francisco, Calif.
Knoxville. Tenn.
Shreveport. La.
Midland/Odessa. Tex.
Pierre. S.D.
Alexandria. La.
Midland/Odessa, Tex.
Missoula. Mont.
Pensacola, Fla.
Indianapolis, Ind.
Portland, Me.
Shreveport, La.
176
Page 5
161.
CLE-DTW
Cleveland. Ohio
162.
CVG-MSP
Cincinnati, Ohio
163.
CLT-GSP
Charlotte. N.C.
164.
BIL-GTF
Billings, Mont.
165.
CAK-YNG
Akron/ Canton. Ohio
166.
ATL-MCN
Atlanta, Ga,
167.
CVG-IND
Cincinnati, Ohio
168.
CMH-CVG
Columbus, Ohio
169.
CHA-CVG
Chattanooga, Tenn.
170.
MCO-TPA
Orlando. Fla.
171.
PFN-TLH
Panama City, Fla.
172.
AGS-CLT
Augusta, Ga.
173.
BTR-MSY
Baton Rouge, La.
174.
MKG-ORD
Muskegon, Mich.
175.
PDT-PDX
Pendleton. Ore.
176.
BOI-PDT
Boise. Id.
177.
PIH-SLC
Pocatello. Id.
178.
ATL-CSG
Atlanta. Ga.
179.
CLE-TOL
Cleveland. Ohio
180.
FWA-IND
Ft. Wayne. Ind.
181.
CLT-GSO
Charlotte. N.C.
182.
AVP-WAS
Wilkes- Barre/Scranton. Pa,
183.
AMA-LBB
AmarUlo. Texas
184.
PBI-TLH
West Palm Beach. Fla.
185.
IDA-SLC
Idaho Falls, Id.
186.
CHS-SAV
Charleston, S. C.
187.
CRP-RAP
Casper, Wyo.
188.
CVG-LEX
Cincinnati, Ohio
189.
CLE-CRW
Cleveland, Ohio
190.
CAK-PIT
Akron/ Canton. Ohio
191.
JMS-MSP
Jamestown, N. D.
192.
CAE-CLT
Columbia, S. C.
193.
BIL-BZN
Billings. Mont
194.
DSM-OMA
Des Moines, Iowa
195.
PDX-SEA
Portland, Ore.
196.
BAL-PHL
Baltimore, Md.
197.
LEX-SDF
Lexington, Ky.
198.
BDL-BOS
Hartford, Conn.
199.
BIL-CRP
Billings, Mont.
200.
NYC-PHL
New York. N.Y.
Detroit, Mich. (Metropolitan)
Minneapolis /St. Paul, Minn.
Greenville/Spartanburg. S.C.
Great Falls. Mont.
Youngstown. Ohio
Macon. Ga.
Indianapolis. Ind.
Cincinnati, Ohio
Cincinnati, Ohio
Tampa, Fla.
Tallahassee, Fla.
Charlotte, N.C.
New Orleans. La.
Chicago. Ul. (O'Hare)
Portland. Ore.
Pendleton, Ore.
Salt Lake City. Utah
Columbus, Ga.
Toledo, Ohio
Indianapolis, Ind.
Greensboro/High Point, N.C.
Washington, D. C.
Lubbock, Texas
Tallahassee, Fla.
Salt Lake City, Utah
Savannah, Ga.
Rapid City, S.D.
Lexington, Ky.
Charleston, W. Va.
Pittsburgh, Pa.
Minneapolis /St. Paul, Minn.
Charlotte, N.C.
Bozeman, Mont.
Omaha, Neb.
Seattle, Wash.
Philadelphia, Pa.
Louisville, Ky.
Boston, Mass.
Casper, Wyo.
Philadelphia, Pa.
177
Page 6
201.
BIL-HLN
Billings. Mont.
202.
BTM-IDA
Butte. Mont.
203.
GSO-ROA
Greensboro/High Point, N.C.
204.
MIA-PBI
Miami, Fla.
205.
FIR-RAP
Pierre. S. D.
206.
MOB-PNS
Mobile. Ala.
207,
PHX-TUS
Phoenix, Ariz.
208.
MSN-ORD
Madison, Wis.
209.
BFL-LAX
Bakersfield. Calif.
210.
CID-OMA
Cedar Rapids/Iowa City. la.
211.
FLL-PBI
Ft. Lauderdale. Fla.
212.
DTW/FWA
Detroit, Mich. (Metropolitan)
213,
BDL-PVD
Hartford. Conn.
214.
GSO-RDU
Greensboro/High Point, N.C.
215.
MSN-RST
Madison. Wis.
216.
FMY-SRQ
Fort Myers. Fla.
217,
AGS-CAE
Augusta. Ga.
218,
PSP-TUS
Palm Springs, Calif.
219.
CSG-MGM
Columbus. Ga.
220.
LAX-SBA
Los Angeles. Calif.
221.
CYS-DEN
Cheyenne. Wyo.
222.
ELP-SFO
El Paso. Tex.
223.
BIS-FAR
Bismarck. N. D.
224.
SAN-SFO
San Diego. Calif.
225.
EUG-PDX
Eugene. Ore.
226,
DAB- T PA
Daytona Beach, Fla.
227.
LAX- SAN
Los Angeles, Calif.
228.
ORD-SBN
Chicago, 111.
229.
LAX-PSP
Los Angeles. Calif.
230.
PDX-STL
Portland, Ore.
231.
AVL-RDU
Asheville. N.C,
232.
RNO-SMF
Reno. Nev,
233.
EUG-MFR
Eugene, Ore.
234.
DAY- LAX
Dayton. Ohio
235.
CHA-LEX
Chattanooga, Tenn.
236.
CRP-CYS
Casper, Wyo.
237.
CID-DSM
Cedar Rapids/Iowa City. la.
238.
LAX-VIS
Los Angeles, Calif,
239.
COS-OKC
Colorado Springs. Colo.
240.
JAN-MEI
Jackson/Vicksburg. Miss.
Helena. Mont.
Idaho Falls. Id.
Roanoke. Va.
West Palm Beach, Fla.
Rapid City. S. D.
Pensacola, Fla.
Tucson. Ariz.
Chicago, 111. (O'Hare)
Los Angeles, Calif.
Omaha, Neb.
West Palm Beach, Fla.
Ft. Wayne, Ind,
Providence, R.I.
Raleigh/ Durham, N.C.
Rochester, Minn.
Sarasota. Fla.
Columbia, S.C.
Tucson, Ariz.
Montgomery, Ala.
Santa Barbara, Calif.
Denver, Colo.
San Francisco, Calif.
Fargo, N.D.
San Francisco. Calif.
Portland. Ore.
Tampa, Fla,
San Diego. Calif,
South Bend, Ind.
Palm Springs. Calif.
St. Louis. Mo.
Raleigh/ Durham, N.C.
Sacramento. Calif.
Medford. Ore.
Los Angeles. Calif.
Lexington, Ky.
Cheyenne, Wyo.
Des Moines. la,
Visalia, Calif.
Oklahoma City. Okla.
Meridian. Miss.
51-146 O - 76 - pt. 1
178
Page 7
241.
SHV-TUL
Shreveport, La.
242.
BHM-BNA
Birmingham, Ala.
243.
HLN-MSO
Helena. Mont.
244.
EVV-PAH
EvansvUle. Ind.
245.
CVG-LAX
Cincinnati, Ohio
246.
PIT-YNG
Pittsburgh. Pa.
247.
BUF-ROC
Buffalo. N.Y.
248.
CID-MLI
Cedar Rapids/Iowa City, la.
249.
BAL-LAS
Baltimore. Md.
250.
CMH-DAY
Columbus, Ohio
251.
BTM-SLC
Butte. Mont.
252.
MKE-MSN
MUwaukee. Wis.
253.
MRY-SFO
Monterey. Calif.
254.
LAW-OKC
Lawton, Okla.
255.
MSP- EST
Minneapolis/St. Paul, Minn.
256.
BTM-GEG
Butte, Mont.
257.
AVL-TYS
Asheville. N. C.
258.
NYC-TUL
New York, N.Y.
259.
SFO-SMF
San Francisco, Calif.
260.
AGS-SAV
Augusta, Ga.
261.
SEA- WAS
Seattle, Wash.
262.
SAN-TUS
San Diego, Calif.
263.
FWA-SBN
Ft. Wayne, Ind.
264.
LBB-SPS
Lubbock, Tex.
265.
BAL-WAS
Baltimore. Md.
266.
COS-DEN
Colorado Springs. Colo.
267.
MCI-OKC
Kansas City. Mo.
268.
SCK-SFO
Stockton. Calif.
269.
SRQ-TPA
Sarasota. Fla.
270.
DSM-MLI
Des Moines. Iowa
271.
AUS-ELP
Austin. Tex.
272.
BIL-FAR
Billings. Mont.
273.
MKE-SFO
Milwaukee. Wis.
274.
MCI-TUS
Kansas City. Mo.
2 75.
MKE-ORD
Milwaukee. Wis.
276.
DTW-MSY
Detroit. Mich. (Metropolitan)
277.
CAK-NYC
Akron/ Canton. Ohio
278.
BTM-BZN
Butte. Mont.
279.
CLT-DTW
Charlotte. N. C.
280.
FWA-NYC
Ft. Wayne. Ind.
Tulsa, Okla.
Nashville. Tenn.
Missoula. Mont.
Paducah. Ky.
Los Angeles. Calif.
Youngstown. Ohio
Rochester, N.Y.
Moline, 111.
Las Vegas. Nev.
Dayton, Ohio
Salt Lake City, Utah
Madison, Wis.
San Francisco, Calif.
Oklahoma City, Okla.
Rochester, Minn.
Spokane, Wash.
Knoxville, Tenn.
Tulsa, Okla.
Sacramento. Calif.
Savannah. Ga.
Washington. D. C.
Tucson, Ariz.
South Bend, Ind.
Wichita Falls, Tex.
Washington, D. C.
Denver, Colo.
Oklahoma City, Okla.
San Francisco, Calif.
Tampa, Fla.
Moline, 111.
El Paso, Tex.
Fargo, N.D.
San Francisco, Calif.
Tucson, Ariz.
Chicago, ni. (O'Hare)
New Orleans. La.
New York, N.Y.
Bozeman, Mont.
Detroit, Mich. (Metropolitan)
New York. N.Y.
179
Page
281.
FAR-GFK
Fargo, N.D.
282.
OMA-PDX
Omaha. Neb.
283.
ORF-PHF
Norfolk. Va.
284.
NYC-OMA
New York. N. Y.
285.
FLL-MIA
Ft. Lauderdale. Fla.
286.
FNT-MBS
Flint. Mich.
287.
IND-LEX
Indianapolis. Ind.
288.
CHA-CMH
Chattanooga. Term.
289.
AUS-SAT
Austin. Tex.
290.
CLT-DAB
Charlotte. N. C.
291,
CHA-SDF
Chattanooga. Tenn.
292.
IDA-PIH
Idaho Falls. Id.
293.
ABE-AVP
Allentown. Pa.
294,
LAS-TPA
Las Vegas. Nev.
295.
LNK-OMA
Lincoln. Neb,
296.
CLT-RIC
Charlotte. N, C.
297.
HSV-BNA
HuntsvUle/Decatur, Ala.
298.
lAH-MCI
Houston. Tex.
299,
BPT-IAH
Beaumont /Port Arthur. Tex.
300.
BFL-SBA
Bakersfield. Calif.
301.
CRP-SHR
Casper. Wyo.
302.
DTW-TOL
Detroit. Mich. (Metropolitan)
303.
DAB-MCO
Daytona Beach. Fla,
304.
BFL-FAT
Bakersfield. Calif.
305,
MSP-SAN
Minneapolis/ St, Paul, Minn.
306,
BAL-BUF
Baltimore, Md.
307.
BIS-JMS
Bismarck. N.D,
308.
EKO-RNO
Elko, Nev.
309.
DAY-SDF
Dayton. Ohio
310.
MSY-OKC
New Orleans. La.
311.
CVG-TOL
Cincinnati. Ohio
312.
BHM-MLU
Birmingham. Ala,
313.
ILG-WAS
Wilmington, Del,
314.
DAY-PHL
Dayton, Ohio
315.
BTM-HLN
Butte. Mont,
316,
BTM-GTF
Butte. Mont.
317,
MCE-VIS
Merced, Calif.
318,
MHT-ORH
Manchester, N. H. .
319,
JAX-MLB
Jacksonville. Fla.
320,
BAL-SEA
Baltimore. Md.
Grand Forks. N.D,
Portland. Ore.
Newport News. Va.
Omaha. Neb.
Miami. Fla.
Saginaw. Mich.
Lexington. Ky.
Columbus, Ohio
San Antonio. Tex.
Daytona Beach, Fla.
Louisville, Ky.
Pocatello. Id.
Wilkes- Barre/Scranton.
Tampa. Fla,
Omaha. Neb.
Richmond, Va.
Nashville, Tenn.
Kansas City. Mo,
Houston. Tex.
Santa Barbara, Calif.
Sheridan, Wyo.
Toledo. Ohio
Orlando. Fla.
Fresno. Calif.
San Diego, Calif.
Buffalo, N. Y,
Jamestown, N. D.
Reno, Nev.
Louisville, Ky.
Oklahoma City. Okla.
Toledo. Ohio
Monroe, La.
Washington, D, C,
Philadelphia, Pa.
Helena, Mont.
Great Falls, Mont.
Visalia, Calif.
Worcester, Mass.
Melbourne. Fla.
Seattle. Wash,
180
Page 9
321.
BOS-IAH
Boston. Mass.
322.
CLT-JAX
Charlotte, N.C.
323.
EVV-MEM
Evansville. Ind.
324.
JAX-SRQ
Jacksonville, Fla.
325.
BTV-PWM
Burlington, Vt.
326.
GRR-MBS
Grand Rapids, Mich.
327.
CVG-DAY
Cincinnati, Ohio
328.
MHT-PWM
Manchester, N.H.
329.
MOD-SCK
Modesto, Calif.
330.
BOS-PVD
Boston, Mass.
331.
BAL-ROC
Baltimore, Md.
332.
CMH-TYS
Columbus, Ohio
333.
ELP-IAH
El Paso, Tex.
334.
BHM-TYS
Birmingham, Ala.
335.
MCE-MOD
Merced, Calif.
336.
EVV-LEX
Evansville, Ind.
337.
CHA-IND
Chattanooga, Tenn.
338.
MIA-SRQ
Miami, Fla.
339.
NEA-MCN
Brunswick, Ga.
340.
RDU-WAS
Raleigh/ Durham, N.C.
341.
CAK-CLE
Akron/ Canton, Ohio
342.
BHM-BTR
Birmingham, Ala.
343.
GNV-TLX
Gainesville, Fla.
344.
FNT-LAN
Flint, Mich.
345.
LAW-SPS
Lawton, Okla.
346.
GTF-HLN
Great Falls, Mont.
347.
CID-LNK
Cedar Rapids/Iowa City,
la.
348.
FMY-MCO
Fort Myers, Fla.
349.
PDX-SLE
Portland, Ore.
350.
BAL-HVN
Baltimore, Md.
351.
MKE-RST
Milwaukee, Wis.
352.
FWA-TOL
Ft. Wayne, Ind.
353.
LEB-NYC
Lebanon, N.H.
354.
DAY-TOL
Dayton, Ohio
355.
MCO-MLB
Orlando. Fla.
356.
EKO-ELY
Elko, Nev.
357.
BOS-MHT
Boston, Mass.
358.
ELY-SLC
Ely, Nev.
359.
NEA-SAV
Brunswick, Ga.
360.
EWB-NYC
New Bedford, Mass.
Houston, Texas
Jacksonville. Fla.
Memphis. Tenn.
Sarasota, Fla.
Portland, Me.
Saginaw, Mich.
Dayton, Ohio
Portland, Me.
Stockton, Calif.
Providence, R.I.
Rochester, N. Y.
Knoxville. Tenn.
Houston. Tex.
Knoxville. Tenn.
Modesto, Calif.
Lexington, Ky.
Indianapolis, Ind.
Sarasota, Fla.
Macon, Ga.
Washington, D. C.
Cleveland, Ohio
Baton Rouge, La.
Titusville, Fla.
Lansing, Mich.
Wichita Falls, Tex.
Helena, Mont.
Lincoln, Neb.
Orlando, Fla.
Salem, Ore.
New Haven, Conn.
Rochester, Minn.
Toledo, Ohio
New York, N. Y.
Toledo. Ohio
Melbourne, Fla.
Ely, Nev.
Manchester, N. H.
Salt Lake City, Utah
Savannah, Ga.
New York, N. Y.
181
Page 10
361.
DAB-FLL
362.
AGS-CHS
363.
EEN-LEB
364.
BIL-SHR
365.
CMH-LEX
366,
DSM-LNK
367.
BZN-HLN
368.
MHT-NYC
369.
BOS-EWB
370.
MOD-SFO
371.
JAX-NEA
372.
EEN-MHT
Daytona Beach, FIs
Augusta, Ga.
Keene. N. H.
Billings, Mont.
Columbus, Ohio
Des Moines, Iowa
Bozeman, Mont.
Manchester, N. H.
Boston, Mass.
Modesto, Calif.
Jacksonville, Fla.
Keene, N. H.
Ft. Lauderdale, Fla.
Charleston, S. C.
Lebanon. N. H.
Sheridan, Wyo.
Lexington, Ky.
Lincoln, Neb.
Helena, Moat.
New York, N. Y.
New Bedford, Mass.
San Francisco, Calif.
Brunswick, Ga.
Manchester, N. H.
182
EXHIBIT C
CITY PAIRS RISKING LOSS OF SERVICE
BY STATE
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EXHIBIT D
CITY PAIRS RISKING CURTAILMENT OF SERVICE
BY STATE
51-146 O - 76 - pt. 1 - 21
306
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand,
Average Daily
Non-Stop
Services
(1973 Actual)
ALABAMA
Between:
Birmingham
and:
- Chicago, ni.
6
- Cincinnati, Ohio
2
- Dallas /Ft. Worth, '
Tex.
2
- Jackson/ Vicksburg,
Miss
9
- Los Angeles, Calif.
3
- Memphis, Tenn.
9
- Miami, Fla.
3
- Mobile. Ala.
6
- New Orleans, La.
7
- New York. N.Y.
5
HuntsvUle/ Decatur
and:
- Greensboro, N.C.
- Los Angeles, Calif.
- Knoxville, Tenn.
- Orlando, Fla.
- St. Louis, Mo.
- Washington. D.C.
Services Assigned
at
Maximum Earnings
(Simulation)
and:
- Atlanta. Ga.
- Birmingham. Ala.
Montgomery
and:
- Jackson/Vicksburg.
- New Orleans, La.
307
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-stop
Services
(1973 Actual)
Services Assigned
at
Maximuni Earnings
(Simulation)
Between:
Phoenix
and:
- Albuquerque. N. M.
- Amarillo, Texas
- Chicago, 111.
- Dallas, Texas
- Denver, Colo.
- El Paso, Texas
- Houston, Texas
- Kansas City, Mo.
- Las Vegas, Nev.
- Los Angeles, Calif.
- Minneapolis/St. Paul,
- New York, N. Y.
- Oklahoma City. Okla.
- Portland, Ore.
- St. Louis, Mo.
- San Antonio, Texas
- San Francisco, Calif.
- Washington, D. C.
and:
- Chicago, m.
- Dallas. Texas
- Los Angeles. Calif.
- San Francisco, Calif.
308
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
ARKANSAS
Between:
Little Rock
and:
- Dallas, Texas 14 4
- Houston. Texas 2 2
- Kansas City, Mo. 2 2
- Memphis, Tenn. 31 2
- Nashville, Tenn. 2 2
- Oklahoma City. Okla. 2 2
- St. Louis, Mo. 6 4
- Shreveport, La. 4 2
309
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-Stop
Services
(1973 Actual)
CALIFORNIA
Between:
Los Angeles
and:
- Albuquerque. N. M.
12
- Atlanta. Ga.
13
- Baltimore, Md.
3
- Birmingham, Ala.
3
- Boston, Mass.
7
- Chicago, 111.
42
- Cleveland, Ohio
9
- Colorado Springs, Colo.
2
- Columbus, Ohio
2
- Dallas, Texas
26
- Denver, Colo.
26
- Des Moines, Iowa
2
- Detroit, Mich.
10
- El Paso. Texas
14
- Hartford, Conn.
4
- Houston, Texas
14
- Huntsville/ Decatur, Ala,
3
- Indianapolis, Ind.
2
- Kansas City, Mo.
12
- Memphis, Tenn.
8
- Miami, Fla.
4
- Milwaukee, Wis.
4
- Minneapolis /St. Paul, M
linn. 13
- Monterey, Calif.
11
- New Orleans, La.
6
- New York, N. Y.
25
- Oklahoma City, Okla.
8
- Omaha, Neb.
6
- Philadelphia, Pa.
10
Services Assigned
at
Maximum Earnings
(Simulation)
310
Comparison of Non-Stop Scheduled Services (cont'd.)
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
CALIFORNIA (cont'd)
Between:
Los Angeles (cont'd)
and:
- Phoenix. Ariz.
29
- Pittsburgh, Pa.
3
- Portland, Ore.
16
- Reno, Nev.
6
- Sacramento, Calif.
13
- St. Louis, Mo.
11
- Salt Lake City, Utah
12
- San Antonio, Texas
3
- San Francisco, Calif.
80
- Seattle. Wash.
18
- Tampa, Fla.
1
- Tucson. Ariz.
10
- Washington, D.C.
11
Monterey
and:
- Los Angeles. Calif.
11
Sacramento
and:
- Chicago, 111.
4
- Denver, Colo.
4
- Los Angeles. Calif.
13
- Portland, Ore.
2
- Salt Lake City, Utah
2
San Diego
and:
- Chicago. 111.
13
- Dallas, Texas
6
- Denver, Colo.
6
- New York, N.Y.
3
- Seattle, Wash.
2
- Washington. D.C.
4
San Francisco
and:
- Albuquerque, N.M.
12
- Atlanta, Ga.
7
- Baltimore. Md.
4
311
Comparison of Non-Stop Scheduled Services (cont'd.)
Page 3
Average Daily
Services Assigned
Non-Stop
at
Services
Maximum Earnings
(1973 Actual)
(Simulation)
CALIFORNIA (cont'd)
Between:
San Francisco (cont'd)
and:
- Boise. Idaho
4
2
- Boston, Mass.
7
4
- Chicago, ni.
29
12
- Cleveland, Ohio
2
2
- Dallas, Texas
18
2
- Denver, Colo.
26
6
- Detroit, Mich.
9
2
- Eugene, Ore.
8
2
- Houston, Texas
5
2
- Kansas City, Mo.
5
2
- Las Vegas, Nev.
31
14
- Los Angeles, Calif.
80
48
- Medford, Ore.
6
4
- Miami, Fla.
4
2
- Minneapolis /St. Paul,
Minn. 11
2
- New Orleans, La.
2
2
- New York. N. Y.
19
2
- Oklahoma City. Okla.
3
2
- Omaha. Neb.
2
2
- Philadelphia, Pa.
7
2
- Phoenix. Ariz.
9
6
- Pittsburgh. Pa.
2
2
- Portland. Ore.
28
10
- St. Louis. Mo.
4
2
- Salt Lake City. Utah
11
2
- San Antonio. Texas
3
2
- Seattle. Wash.
31
10
- Spokane, Wash.
4
2
- Tucson, Ariz.
4
2
- Washington, D. C.
7
2
312
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
COLORADO
Between:
Colorado Springs
and:
- Albuquerque, N. M.
- Chicago, IlL
- Dallas, Tex.
- Los Angeles, Calif.
and:
- Albuquerque, N. M.
15
- Baltimore, Md.
2
- Billings, Mont.
4
- Boise, Idaho
4
- Boston, Mass.
4
- Chicago, 111.
16
- Cleveland, Ohio
2
- Dallas, Tex.
25
- Des Moines, Iowa
6
- Detroit, Mich.
5
- Fresno, Calif.
2
- Houston, Tex.
9
- Kansas City. Mo.
19
- Las Vegas, Nev.
14
- Lincoln, Neb.
4
- Los Angeles, Calif.
26
- Memphis, Tenn.
2
- Midland/Odessa, Tex.
2
313
Comparison of Non-Stop Scheduled Services (cont'd)
Page 2
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
COLORADO (cont'd)
Between:
Denver
and:
- Milwaukee, Wis. 6
- Minneapolis/St. Paul, Minn. 16
- Moline, 111. 2
- New Orleans, La. 1
- New York, N. Y. 16
- Oklahoma City, Okla. 5
- Omaha, Neb. 15
- Philadelphia, Pa. 2
- Phoenix, Ariz. 18
- Portland, Ore. 14
- Rapid City, S. D. 6
- Reno, Nev. 4
- Sacramento, Calif. 4
- Salt Lake City, Utah 26
- San Diego. Calif. 6
- San Francisco, Calif. 26
- Seattle, Wash. 13
- Sioiix Falls. S. D. 4
- Spokane, Wash. 3
- St. Louis. Mo. 14
- Tulsa. Okla. 2
- Washington. D.C. 9
- Wichita. Kan. 10
Grand Junction
Las Vegas. Nev.
314
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
CONNECTICUT
Between:
Hartford
and:
- Atlanta, Ga.
- Chicago, 111.
- Cleveland, Ohio
- Detroit, Mich.
- Ft. Lauderdale, Fla.
- Los Angeles, Calif.
- Miami, Fla.
- Philadelphia, Pa.
- Pittsburgh, Pa.
- Washington, D. C.
New Haven
and:
- Washington, D. C.
315
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
DELAWARE
316
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
mcLximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peEik demand.
Average DaUy
Non-stop
Services
(1973 Actual)
DISTRICT OF COLUMBIA
Between:
Washington
and:
- Atlanta. Ga,
30
- Austin. Tex.
2
- Boston. Mass,
44
- Buffalo. N.Y.
11
- Charleston. S.C.
4
- Charlotte. N. C.
6
- Chicago, m.
52
- Cleveland. Ohio
19
- Cincinnati. Ohio
7
- Columbia. S.C.
2
- Columbus. Ohio
9
- Dallas. Tex.
14
- Dayton. Ohio
8
- Denver, Colo.
9
- Detroit, Mich.
17
- Greensboro/ High Point,
N.C. 6
- Greenville. Spartanburg.
S.C. 2
- Hartford. Conn.
14
- Houston. Tex.
4
- Huntsville/Decatur.
Ala.
2
- Indianapolis. Ind.
3
- Jacksonville. Fla.
5
- Kansas City. Mo.
1
- KnoxvUle, Tenn.
7
- Lexington, Ky.
2
- Los Angeles, Calif.
11
- Louisville. Ky.
6
- Memphis. Tenn.
8
Services Assigned
Maximum Ear
nings
(Simulation)
317
Page 2
Comparison of Non-Stop Scheduled Services (cont'd)
:.-. Average Daily
Services Assigned
Non-Stop
at
Services
Maximum Earnings
(1973 Actual)
(Simulation)
DISTRICT OF COLUMBIA (cont'd)
Between:
Washington
and:
- Miami, Fla. 17
4
- Milwaukee. Wis. 2
2
- Minneapolis /St. Paul. Minn. 11
2
- Nashville, Tenn. 8
4
- New Haven, Conn. 5
2
- New York, N. Y. 128
36
- Orlando. Fla. 6
4
- Phoenix, Ariz. 4
2
- Pittsburgh, Pa. 15
6
- Providence. R.I. 11
4
- Rochester, N.Y. 8
4
- St. Louis, Mo. 11
4
- San Diego, Calif. 4
2
- San Francisco, Calif. 7
2
- Syracuse, N.Y. 10
2
- Tampa. Fla. 6
2
- Tulsa, Okla. 2
2
- West Palm Beach. Fla, 3
2
318
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
FLORIDA
Between:
Daytona Beach
and:
- Atlanta, Ga, 9 *
[iami, Fla.
6 2
- New York, N.Y. 1 2
Ft. Lauderdale
and:
- Atlanta, Ga. 23 6
- Baltimore, Md. 4 2
- Boston, Mass. S 4
- Chicago, 111. 14 4
- Cleveland, Ohio 6 4
- Detroit, Mich.
- Hartford, Conn.
- Jacksonville, Fla. 4 2
- New York, N.Y. 44 14
- Philadelphia, Pa.
3 2
3 2
7 2
5 4
13 4
- Pittsburgh, Pa.
- Tampa, Fla.
Gainesville
and:
- Atlanta, Ga. 4 2
Jacksonville
and:
- Atlanta. Ga. 30 14
Chicago, 111.
Ft. Lauderdale,
4 2
2
319
Comparison of Non-Stop Scheduled Services (cont'd.)
Page 2
FLORIDA (Cont'd.)
Between
Jacksonville (Cont'd,
and:
- Miami, Fla.
- New Orleans,
- New York, N.
- Norfolk, Va.
- Philadelphia, Pa.
- Washington, D.C.
- West Palm Beach.
La.
Y.
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
Melbourne
Atlanta, Ga.
Miami
and:
- Atlanta, Ga.
34
- Baltimore, Md,
5
- Birmingham, Ala.
3
- Boston, Mass.
13
- Buffalo, N.Y.
2
- Charlotte, N.C.
4
- Chicago, 111.
18
- Cincinnati, Ohio
4
- Cleveland, Ohio
5
- Columbus, Ohio
4
- Dallas, Tex.
11
- Daytona Beach, Fla.
6
- Detroit, Mich.
7
- Hartford, Conn.
3
- Houston, Tex.
7
- Jacksonville, Fla.
8
- Los Angeles, Calif.
4
- New Orleans, La.
8
- New York, N.Y.
66
- Philadelphia, Pa.
14
- Pittsburgh, Pa.
10
-Raleigh/Durham, N.C.
2
- St. Louis, Mo.
5
- San Francisco, Calif.
4
- Tampa, Fla.
34
- Washington, D.C.
17
320
Comparison of Non-Stop Scheduled Services (cont'd.
Page 3
FLORIDA (Cont'd. )
Between:
Orlando
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
- Atlanta, Ga.
26
- Boston, Mass.
3
- Charlotte, N.C.
2
- Chicago, 111.
7
- Cleveland, Ohio
2
- Cincinnati, Ohio
2
- Dallas, Tex.
2
- Detroit, Mich.
3
- Huntsville/Decatur, Ala
2
- New York, N. Y.
17
- Philadelphia, Pa.
2
- Washington, D.C.
6
Panama City
and:
- Tampa, Fla.
3
Pensacola
and:
- Atlanta, Ga.
12
Sarasota
and:
- Atlanta, Ga.
7
- Chicago, 111.
2
Tallahassee
and:
- Atlanta, Ga.
10
Tampa
and:
- Atlanta, Ga.
37
- Boston, Mass.
6
- Chicago, 111.
16
- Cincinnati, Ohio
4
- Cleveland, Ohio
5
- Columbus, Ohio
2
- Dallas, Tex.
7
321
Comparison of Non-Stop Scheduled Services (cont'd)
Page 4
(1973 Actual)
FLORIDA (cont'd)
Between:
Tampa (cont'd)
and:
- Dayton, Ohio
2
- Detroit, Mich.
9
- Ft. Lauderdale, Fla.
13
- Houston, Tex.
1
- Los Angeles. Calif.
1
- Louisville, Ky.
2
- Miami. Fla.
34
- Milwaukee, Wis.
2
- Nashville. Tenn.
2
- New Orleans, La.
9
- New York, N. Y.
20
- Panama City, Fla.
3
- Philadelphia, Pa.
8
- Pittsburgh, Pa.
6
- St. Louis. Mo.
5
- Washington. D. C.
6
West Palm Beach
and:
- Atlanta, Ga.
17
- Chicago, m.
2
- Jacksonville, Fla.
5
- New York, N.Y.
9
- Washington, D. C.
3
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(Simulation)
322
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
Between:
Atlanta
and:
- Akron/Canton, Ohio 2
- Baltimore, Md. 18
- Baton Rouge, La. 3
- Boston, Mass. H
- Buffalo, N.Y. 9
- Charleston, S.C. 6
- Charleston, W. Va. 3
- Charlotte, N.C. 25
- Chicago, 111. 34
- Columbus, Ohio 5
- Cincinnati, Ohio 14
- Cleveland, Ohio 12
- Dallas/Ft. Worth, Tex. 31
- Dayton, Ohio 11
- Daytona Beach, Fla. 9
- Detroit, Mich. 10
- Evansville, Ind. 2
- Ft. Lauderdale, Fla. 23
- Gainesville, Fla. *
- Greensboro/High Point, N.C. 12
- Hartford, Conn. 8
- Houston, Tex. 26
- Indianapolis, Ind. 13
- Jackson/Vicksburg, Miss. 8
- Jacksonville, Fla. 30
323
Comparison of Non-Stop Scheduled Services (cont'd.)
Page 2
GEORGIA (cont'd.)
Average Daily
Non-stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
Between:
Atlanta (cont'd. )
and:
- Kansas City, Mo.
6
- Las Vegas. Nev.
2
- Lexington, Ky.
2
- Louisville, Ky.
23
- Los Angeles, Calif.
13
- Melbourne, Fla.
7
- Memphis, Tenn.
18
- Miami, Fla.
34
- Milwaukee, Wis.
6
- Minneapolis/St. Paul, Minn.
10
- Mobile, Ala.
12
- Nashville, Tenn.
14
- New Orleans, La.
29
- Newport News, Va.
2
- New York, N. Y.
57
- Norfolk, Va.
5
- Orlando, Fla.
26
- Pensacola, Fla.
12
- Philadelphia, Pa.
25
- Pittsburgh, Pa.
15
- Providence, R.L
2
-Raleigh/Durham, N.C.
12
- Richmond, Va.
8
- Rochester, N.Y.
3
- San Antonio, Tex.
7
- San Francisco, Calif.
7
- St. Louis, Mo,
18
- Sarasota, Fla.
7
- Savannah, Ga.
13
- Shreveport, La.
2
- Syracuse, N. Y.
4
- Tallahassee, Fla.
10
- Tampa, Fla.
37
- Washington, D.C.
30
- West Palm Beach, Fla.
17^
Savannah
Atlanta, Ga.
324
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simiilated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services
(1973 Actual)
Maximum Earnings
(Simulation)
Between:
Boise
and:
- Chicago, 111.
- Denver, Colo.
- Portland. Ore.
- Reno, Nev.
- San Francisco,
- Seattle. Wash.
325
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
Between:
Chicago
and:
- Akron/Canton, Ohio
7
- Albany, N.Y.
6
-Albuquerque, N.Mex.
9
- AUentown, Pa.
3
- Atlanta, Ga.
34
- Baltimore, Md.
14
- Billings, Mont.
2
- Birmingham, Ala.
6
- Boise. Idaho
2
- Boston, Mass.
29
- Buffalo, N.Y.
15
- Charlotte. N.C.
7
- Cleveland, Ohio
34
- Colorado Springs, Colo.
3
- Columbia, S. C.
2
- Columbus, Ohio
15
- Dallas, Tex.
25
- Denver, Colo.
41
- Des Moines, Iowa
19
- El Paso, Tex.
3
- Evansville, Ind.
6
- Ft. Lauderdale, Fla.
14
- Greensboro/High
Point, N.C.
8
- Harrisburg, Pa.
2
- Hartford, Conn.
18
326
Page 2
Comparison of Non-Stop Scheduled Services (cont'd.)
Average Daily
Non-stop
Services
Services Assigned
at
Maximum Earnings
(1973 Actual)
(Simulation)
ILLINOIS (cont'd.)
Between;
Chicago (cont'd. )
and:
- Houston, Tex.
14
4
- Islip, N.Y.
- Jacksonville, Fla.
2
4
2
2
- Kansas City, Mo.
41
12
- Knoxville, Tenn.
2
2
- Las Vegas, Nev.
19
8
- Lincoln, Nebr.
- Los Angeles, Calif.
- Louisville, Ky.
4
42
16
2
16
8
- Memphis, Tenn.
- Miami, Fla.
- Minneapolis/St. Paul,
- Nashville, Tenn.
19
18
Minn. 56
12
6
6
32
- New Orleans, La,
8
- Newport News, Va.
- New York, N.Y.
2
117
36
- Norfolk, Va.
7
- Oklahoma City, Okla.
- Omaha, Nebr.
7
19
10
- Orlando. Fla.
7
- Phoenix, Ariz.
18
- Pittsburgh, Pa.
- Portland, Oreg.
- Providence, R. I.
-Raleigh/Durham, N.C
- Reno, Nev.
44
11
4
6
2
10
- Rochester, Minn.
12
- Rochester, N.Y.
12
- Sacramento, Calif,
- Salt Lake City, Utah
- San Antonio, Tex.
- San Diego, Calif.
- San Francisco, Calif.
4
15
7
13
29
12
- Sarasota, Fla.
- Seattle, Wash.
15
2
6
- Spokane, Wash.
- Syracuse, N.Y.
- Tampa, Fla.
2
6
16
2
4
6
327
Comparison of Non-Stop Scheduled Services (cont'd.)
Page 3
ILLINOIS (cont'd.)
Between:
Chicago (cont'd. )
and:
- Tucson, Ariz.
- Tulsa, Okla.
- Washington, D.C.
- West Palm Beach, Fla.
- Wichita, Kan.
- Youngstown, Ohio
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
Maxi
mm Earnings
(Simulation)
Moli
Denver, Colo.
328
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximizatio
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Between:
Evansville
and:
- Atlanta, Ga.
2
- Chicago, 111.
6
Indianapolis
and:
- Atlanta, Ga.
13
- Dallas, Tex.
5
- Kansas City, Mo.
4
- Los Angeles, Calif.
2
- Memphis, Tenn.
7
- Minneapolis/St. Paul, Minn. 2
- New York, N.Y.
8
- Philadelphia. Pa.
2
- Pittsburgh, Pa.
5
- Washington, D. C.
3
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
329
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
IOWA
Between:
Cedar Rapids
and:
- Chicago, 111. 11 6
Des Moines
Chicago, 111.
Denver, Colo.
Los Angeles, Calif.
330
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE; This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
Between:
Wichita
and:
- Albuquerque, N. M. 2 2
- Chicago, 111. 6 2
- Denver, Colo. 10 4
331
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
KENTUCKY
Between:
Lexington
and:
- New York, N.Y. 2 2
- Washington, B.C. 2 2
Louisville
and:
- Atlanta, Ga. 23 6
- Chicago, 111. 16 8
- Cleveland, Ohio 4 2
- Columbus, Ohio 4 2
- Dallas, Tex. 3 2
- Detroit, Mich. 7 4
- Kansas City, Mo. 2 2
- Knoxville, Tenn. 4 2
- Memphis, Tenn. 4 2
- New York, N.Y. 5 .4
- St. Louis, Mo. 5 2
- Tampa, Fla. 2 2
-Washington, B.C. 6 2
332
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
liiaximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
LOUISIANA
Between:
Alexandria
(1973 Actual)
(Simulation)
Dallas, Texas
New Orleans
and:
- Atlanta, Ga.
29
- Baltimore, Md.
4
- Birmingham, Ala.
- Boston, Mass.
7
2
- Chicago, 111.
- Dallas, Texas
8
24
- Denver, Colo.
1
- Houston, Texas
36
- Jacksonville, Fla.
2
- Kansas City, Mo.
- Los Angeles, Calif.
2
6
- Memphis, Tenn.
15
- Miami, Fla.
- Montgomery, Ala.
- Nashville. Tenn.
- New York, N.Y.
8
4
2
12
- Philadelphia, Pa.
- Pittsburgh, Pa.
- St. Louis, Mo.
3
4
4
- San Antonio, Texas
3
- San Francisco, Calif.
2
- Shreveport, La.
- Tampa, Fla.
8
9
333
Comparison of Non-Stop Scheduled Services (cont'd)
Page 2
Average Daily
Non-stop
Services
LOUISIANA (cont'd)
Between:
Shreveport
and:
- Atlanta, Ga.
- Dallas, Texas
- Houston, Texas
- Jackson/Vicksburg, Miss
- Little Rock, Ark.
- Memphis. Tenn.
- New Orleans, La.
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
334
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maiximum Earnings
(1973 Actual)
(Simulation)
Between:
Bangor
and:
- Boston. Mass.
Portland
New York, N. Y.
Presque Isle
and:
- Boston, Mass.
335
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-Stop
Services
(1973 Actual)
MARYLAND
Between:
Baltimore
and:
- Atlanta. Ga.
18
- Boston, Mass.
16
- Chicago, 111
14
- Cleveland, Ohio
4
- Dallas, Texas
5
- Denver. Colo,
2
- Detroit, Mich.
4
- Ft. Lauderdale. Fla.
4
- Houston. Texas
2
- Kansas City. Mo.
2
- Los Angeles. Calif.
3
- Miami. Fla.
5
- New Orleans, La.
4.
- Pittsburgh, Pa.
12
- St. Louis, Mo.
2
- San Francisco, Calif.
4
Services Assigned
Maximum Earnings
(Simulation)
336
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
MASSACHUSETTS
Between:
Boston
and:
- Atlanta, Ga.
11
- Baltimore, Md.
16
- Bangor, Maine
9
- Buffalo. N.Y.
8
- Charlotte. N.C.
2
- Chicago, Ul.
29
- Cleveland. Ohio
10
- Cincinnati, Ohio
5
- Columbus. Ohio
3
- Dallas. Texas
2
- Denver. Colo.
4
- Detroit. Mich.
8
- Ft. Lauderdale. Fla.
6
- Los Angeles. Calif.
7
- Miami, Fla.
13
- Milwaukee. Wis.
2
- Minneapolis/St. Paul, Minn. 4
- New Orleans, La.
2
- New York. N.Y.
121
- Orlando, Fla.
3
- Philadelphia. Pa.
42
- Pittsburgh. Pa.
11
- Presque Isle. Me,
4
- St. Louis, Mo.
4
- San Francisco. Calif.
7
- Tampa. Fla.
6
- Washington. D. C.
44
337
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate fr-equcncies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
Between:
Detroit
and:
- Albany. N.Y.
- Atlanta, Ga.
4
10
- Baltimore, Md.
4
- Boston, Mass.
8
- Buffalo, N.Y.
11
- Burlington, Vt.
2
- Cincinnati, Ohio
- Dallas. Texas
- Denver, Colo.
14
7
5
- Ft. Lauderdale, Fla.
- Hartford, Conn.
3
6
- Kansas City, Mo.
- Las Vegas, Nev.
4
2
- Los Angeles, Calif.
- Louisville, Ky.
10
7
- Memphis, Tenn.
- Miami. Ha.
- Minneapolis/St. Paul. Mii
- New York. N. Y.
3
7
m. 5
56
- Orlando. Fla.
3
- Philadelphia, Pa.
- Pittsburgh, Pa.
14
14
- Rochester, N.Y.
- St. Louis, Mo.
12
6
- San Francisco, Calif.
9
- Syracuse, N. Y.
2
- Tampa. Fla.
- Washington, D. C.
9
17
51-146 O - 76 - Dt.
338
Comparison of Non-Stop Scheduled Services (cont'd)
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
MICHIGAN (cont 'd )
Between:
Saginaw
and:
- New York, N. Y.
Page
339
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE; This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Services Assigned
at
Maximum Earnings
(Simulation)
Average Daily
Non-Stop
Services
(1973 Actual)
MINNESOTA
Between:
Minneapolis/St. Paul
and;
- Atlanta, Ga.
10
- Billings, Mont.
2
- Bismarck, N. Dak.
2
- Boston, Mass.
4
- Chicago, 111.
56
- Cleveland, Ohio
4
- Dallas. Tex.
4
- Denver, Colo.
16
- Detroit, Mich.
5
- Indianapolis, Ind.
2
- Kansas City, Mo.
6
- Las Vegas, Nev.
3
- Los Angeles, Calif.
13
- Milwaukee, Wis.
12
- New York, N.Y.
16
- Omaha, Nebr.
13
- Philadelphia, Pa.
4
- Phoenix, Ariz.
2
- Rapid City, S. Dak.
2
- San Francisco, Calif.
11
- Seattle. Wash.
8
- Spokane, Wash.
4
- St. Louis, Mo.
6
- Washington, D.C.
n
Rochester
and:
.
- Chicago. 111.
12
340
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE; This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
MISSISSIPPI
Between:
Jackson/ Vicks burg
and:
- Atlanta, Ga. 8 4
- Birmingham, Ala. 9 4
- Dallas, Tex. 3 2
- Memphis, Tenn, 16 4
- Montgomery, Ala. 5 2
- Shreveport, La. 12 4
341
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Avera
ge Daily
Non
i-Stop
Ser
vices
MISSOURI
(1973
Actual)
Between:
Kansas City
and:
- Albuquerque, N.M.
4
- Amarillo, Tex.
2
- Atlanta, Ga.
6
- Baltimore, Md.
2
- Chicago, 111.
41
- Cincinnati, Ohio
2
- Dallas, Tex.
18
- Denver, Colo.
19
- Detroit, Mich.
4
- Indianapolis, Ind.
4
- Las Vegas, Nev.
2
- Little Rock, Ark.
2
- Los Angeles, Calif.
12
- Louisville, Ky.
2
- Memphis, Tenn.
8
- Minneapolis /St. Paul,
Minn.
6
- New Orleans, La.
2
- New York, N.Y.
4
- Philadelphia, Pa.
2
- Phoenix, Ariz.
3
- San Francisco, Calif.
5
- Seattle, Wash.
2
- Washington, D.C.
1
Services Assigned
at
Maximum Earnings
(Simulation)
342
Page 2
Comparison
of Non-stop Scheduled Services (cont'd.)
Average Daily
Non-stop
Services
(1973 Actual)
MISSOURI (cont'd.)
Between:
St. Louis
and:
- Atlanta, Ga.
- Baltimore, Md.
- Boston, Mass.
- Charlotte, N.C.
- Cleveland, Ohio
- Cincinnati, Ohio
- Dallas, Tex.
- Dayton, Ohio
- Denver, Colo.
- Detroit, Mich.
- Houston, Tex.
- Huntsville/Decatur, Ala.
- Las Vegas, Nev.
- Little Rock, Ark.
- Louisville, Ky.
- Los Angeles, Calif.
- Memphis. Tenn.
- Miami, Fla.
- Minneapolis/St. Paul, Mi
- New Orleans, La.
- New York, N.Y.
- Oklahoma City, Okla.
- Omaha, Nebr.
- Philadelphia, Pa.
- Phoenix, Ariz.
- Pittsburgh, Pa.
- San Francisco, Calif.
- Seattle, Wash.
- Tulsa, Okla.
- Tampa, Fla.
- Washington, D.C.
2
4
2
9
10
14
10
14
6
8
2
3
6
5
11
26
5
6
4
18
2
9
5
7
8
4
3
11
5
11
Services
at
Maximum
Assigned
Earnings
(Simulation)
343
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
Between;
Billings
and:
- Chicago, 111. 2 2
- Denver, Colo. 4 2
- Minneapolis /St. Paul, Minn. 2 2
Great Falls
and:
- Salt Lake City, Utah 2 2
344
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
NEBRASKA
Between:
Lincoln
and:
- Chicago, 111. 4 2
- Denver, Colo. 4 2
Omaha
and:
- Chicago, 111. 19 10
- Denver, Colo. 15 2
- Los Angeles, Calif. 6 2
- Minneapolis/St. Paul, Minn. 13 6
- San Francisco, Calif. 2 2
- Seattle, Wash. 3 2
- St. Louis, Mo. 9 4
345
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - B
oth Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
Maximum Earnings
(Simulation)
Between:
Las Vegas
and:
- Albuquerque, N.M.
5
- Atlanta, Ga.
2
- Chicago, 111.
19
- Dallas, Tex.
6
- Denver, Colo.
14
- Detroit, Mich.
2
- Grand Junction, Colo.
2
- Houston, Tex.
6
- Kansas City, Mo.
2
- Milwaukee, Wis.
1
- Minneapolis /St. Paul, Minn. 3
- New York, N.Y.
7
- Phoenix, Ariz.
. 14
- St. Louis, Mo.
2
- Salt Lake City, Utah
17
- San Francisco, Calif.
31
:eno
and;
- Boise, Idaho
2
- Chicago, 111.
2
- Denver, Colo.
4
- Los Angeles, Calif.
6
- Portland, Oreg.
6
- Salt Lake City, Utah
7
- Seattle, Wash.
2
346
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and.it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
NEW HAMPSHIRE
Between:
Manchester
and:
Cleveland, Ohio
Average Daily Services Assigned
Non- Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
347
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
, adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
NEW JERSEY
None.
348
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
NEW MEXICO
Between:
Albuquerque
and:
- Chicago. 111. 9 4
- Colorado Springs, Colo. 5 2
Dallas, Tex. n
- Denver, Colo. 15
- Kansas City, Mo. 4
- Las Vegas, Nev. 5
- Los Angeles, Calif. 12
- Lubbock, Tex. 2
- Midland, Tex. 3
Oklahoma City, Okla. 2 2
Phoenix, Ariz. 4 2
San Antonio, Tex. 2 2
San Francisco, Calif. 5 4
Wichita, Kan. 2 2
349
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop
at
Services
Maximum Earnings
(1973 Actual)
(Simulation)
NEW YORK
Between:
Albany
and:
- Boston, Mass.
9
2
- Buffalo, N.Y.
11
2
- Chicago, ni.
6
2
- Detroit, Mich.
4
2
Buffalo
and:
- Chicago. 111.
15
6
- Cleveland, Ohio
13
4
- Detroit, Mich.
11
2
- Miami. Fla,
2
2
- New York. N.Y.
29
10
- Philadelphia, Pa.
4
2
- Pittsburgh, Pa.
17
6
- Washington, D.C.
11
2
Islip
and:
- Chicago, ni.
2
2
New York
and
- Atlanta. Ga.
57
14
- Birmingham, Ala.
5
2
- Boston, Mass.
121
60
- Buffalo. N.Y.
29
10
- Charleston, S. C.
2
2
350
r>^^p..i..on of Non-stop Scheduled Services (cont'd)
Page 2
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
NEW YORK (cont'd)
Between:
New York (cont'd)
and:
- Charleston, W. Va.
- Charlotte, N.C.
- Chicago, 111.
- Cincinnati, Ohio
- Cleveland, Ohio
- Columbia, S. C.
- Columbus, Ohio
- Dallas, Texas
- Dayton, Ohio
- Daytona Beach, Fla.
- Denver, Colo.
- Detroit, Mich.
- Ft. Lauderdale, Fla.
- Greensboro, N.C.
-Greenville/Spartanburg. S.C,
- Houston. Texas
- Indianapolis, Ind,
- Jacksonville, Fla.
- Kansas City. Mo.
- Knoxville, Tenn.
- Las Vegas, Nev.
- Lexington, Ky.
- Los Angeles, Calif.
- Louisville, Ky.
- Memphis, Tenn.
- Miami, Fla.
- Milwaukee, Wis.
- Minneapolis /St. Pool, Minn.
- Nashville, Tenn.
- Norfolk. Va.
- New Orleans, La.
- Newport News, Va.
- Oklahoma City, Okla.
- Orlando. Fla.
- Phoenix, Ariz.
- Pittsburgh, Pa.
- Portland, Maine
- Raleigh/ Durham, N.C.
2
18
117
15
43
6
14
25
11
1
16
56
44
13
. 6
5
8
2
4
5
7
2
25
16
16
6
14
12
3
2
17
2
4
36
4
12
2
4
8
4
2
4
12
14
2
2
4
4
4
2
2
4
2
12
4
4
20
6
4
351
Comparison of Non-Stop Scheduled Services (cont'd)
Page 3
NEW YORK (cont'd)
Between:
New York (cont'd)
and:
- Richmond. Va.
- Rochester, N. Y.
- Saginaw, Mich.
- Salt Lake City, Utah
- St. Louis, Mo.
- San Diego, Calif.
- San Francisco, Calif.
- Seattle. Wash.
- Syracuse, N, Y.
- Tampa, Fla.
- Toledo, Ohio
- Washington, D. C.
- West Palm Beach, Fla.
- Youngstown, Ohio
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
at
Maximum Earnings
(Simulation)
Rochester
and:
- Atlanta. Ga.
- Chicago, ni.
- Cleveland, Ohio
- Detroit. Mich.
- New York, N. Y.
- Philadelphia. Pa.
- Pittsburgh. Pa.
- Washington. D. C.
Syracuse
and:
- Atlanta. Ga.
- Chicago, 111.
- Detroit, Mich.
- New York. N. Y.
- Philadelphia, Pa.
- Washington, D.C.
352
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
NORTH CAROLINA
Between
Charlotte
and:
- Akron/Canton, Ohio
2
- Atlanta, Ga.
25
- Boston, Mass.
2
- Chattanooga, Tenn.
6
- Chicago, 111.
7
- Columbus, Ohio
4
- Memphis, Tenn.
4
- Miami, Fla.
4
- New York, N.Y.
18
- Orlando, Fla.
2
- Philadelphia, Pa.
6
- Pittsburgh. Pa.
8
- St. Louis, Mo.
2
- Washington, D.C.
6
Greensboro
and:
- Atlanta, Ga.
12
- Chicago, 111.
8
- Huntsville/Decatur, Ala.
2
- New York, N.Y.
13
- Pittsburgh, Pa.
2
- Washington, D.C.
6
353
Page 2
Comparison of Non-Stop Scheduled Services (cont'd.)
Average Daily Services Assigned
Non-Stop
Services Maximum Earnings
TT973 Actual) (Simulation)
NORTH CAROLINA (Cont'd.)
Between:
Raleigh/Durham
and:
- Atlanta, Ga. 12
6 4
Chicago, HI
Miami, Fla.
New York, I
Philadelphia, Pa. 2 2
Miami, Fla. 2 2
New York, N. Y. 12 4
354
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
NORTH DAKOTA
Between;
Bismarck
and:
- Minneapolis/St. Paul,
355
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Ear
(1973 Actual)
OHIO
Between
Akron/Canton
and:
- Atlanta, Ga.
2
- Charlotte, N.C.
2
- Chicago. 111.
7
Cleveland
and:
- Atlanta, Ga.
12
- Baltimore, Md.
4
- Boston, Mass.
10
- Chicago, 111.
34
- Dallas, Tex.
5
- Denver, Colo.
2
- Ft. Lauderdale, Fla.
6
- Hartford, Conn.
4
- Houston, Tex.
2
- Los Angeles, Calif.
9
- Louisville, Ky.
4
- Manchester, N.H.
2
- Miami, Fla.
5
- Milwaukee, Wis.
6
- Minneapolis/St. Paul,
Minn.
4
- New York, N. Y.
43
- Norfolk, Va.
2
- Orlando, Fla.
2
- Philadelphia, Pa.
15
- Providence, R. I.
2
- Rochester, N.Y.
4
(Si
ition)
ungs
356
Page 2
Comparison of Non-Stop Scheduled Services (cont'd.)
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
OHIO (Cont'd.)
Between:
Celveland (cont'd.)
and:
- San Francisco, Calif. 2 2
- St. Louis, Mo. 9 4
- Tampa, Fla. 5 2
- Washington, D,C. 19 2
and:
- Atlanta, Ga.
14
- Birmingham, Ala.
2
- Boston, Mass.
5
- Dallas, Tex.
7
- Detroit, Mich.
14
- Kansas City, Mo.
2
- Knoxville, Tenn.
5
- Memphis, Tenn.
3
- Miami, Fla.
4
- Nashville, Tenn.
7
- New York, N.Y.
15
- Orlando, Fla.
2
- Philadelphia, Pa.
2
- Pittsburgh, Pa.
9
- St. Louis, Mo.
10
- Tampa, Fla.
4
- Washington, D.C.
7
Columbus
and:
- Atlanta, Ga.
5
- Boston. Mass.
3
- Charlotte, N.C.
4
- Chicago, 111.
15
- Los Angeles, Calif.
2
- Louisville, Ky.
4
- Miami, Fla.
4
- New York, N.Y.
14
- Philadelphia, Pa.
5
- Tampa, Fla.
2
- Washington, D.C.
9
357
Page 3
Comparison of Non-Stop Scheduled Services (cont'd.)
OHIO (Cont'd.)
Between:
Dayton
and:
- Atlanta, Ga. 11
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
- Memphis, Tenn. 2 2
- New York, N. Y. 11 4
- St. Louis, Mo. 10 2
- Tampa, Fla, 2 2
- Washington, D.C. 8 4
Toledo
and:
- New York, N. Y, 2 2
Youngstown
and:
- Chicago, 111. 5 2
- New York. N. Y. 2 2
358
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE; This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Services Assigned
Non-stop
at
Services
Maximi
(Sir
jm Earnings
(1973 Actual)
nulation)
OKLAHOMA
Between:
Oklahoma City
and:
- Albuquerque, N.M.
2
2
- Chicago, 111.
7
4
- Dallas, Tex,
26
4
- Houston, Tex.
3
2
- Little Rock, Ark.
2
2
- Los Angeles, Calif.
8
4
- New York. N.Y.
2
2
- Phoenix, Ariz.
4
2
- St. Louis,' Mo.
2
2
- San Francisco, Calif.
3
2
Tulsa
and:
- Chicago, 111.
7
4
- Denver, Colo.
2
2
- Houston, Tex.
5
4
- Nashville, Tenn.
2
2
- St. Louis. Mo.
11
4
- Washington, B.C.
2
2
359
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE; This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(Simulation)
(1973 Actual)
OREGON
Between:
Eugene
and:
- San Francisco, Calif.
8
Medford
and:
- San Francisco, Calif.
6
Portland
and:
- Boise, Idaho
4
- Chicago, III.
11
- Dallas, Tex.
4
- Denver, Colo.
14
- Los Angeles, Calif.
16
- Phoenix, Ariz.
2
- Reno, Nev.
6
- Sacramento, Calif.
2
- San Francisco, Calif.
28
- Spokane, Wash.
8
360
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
PENNSYLVANIA
Between:
AUentown
and:
- Chicago, III.
3
- Pittsburgh. Pa.
7
Scranton/Wilkes Barre
and:
- Chicago, 111.
2
- Pittsburgh, Pa.
18
Philadelphia
and:
- Atlanta, Ga.
25
- Boston, Mass.
42
- Buffalo, N.Y.
4
- Charlotte, N.C.
6
- Cincinnati, Ohio
2
- Cleveland. Ohio
15
- Columbus, Ohio
5
- Dallas, Tex.
5
- Denver, Colo.
2
- Detroit, Mich.
14
- Ft. Lauderdale, Fla.
7
- Hartford, Conn.
11
- Houston, Tex.
2
- Indianapolis, Ind.
2
- Jacksonville, Fla.
3
- Kansas City, Mo.
2
- Los Angeles, Calif.
10
361
Comparison of Non-Stop Scheduled Services (cont'd. )
Page 2
Average Daily
Non-Stop
Services
(1973 Actual)
PENNSYLVANIA (cont'd. )
Between;
Philadelphia (cont'd. )
and:
- Miami, Fla. 14
- Minneapolis/St. Paul, Minn. 4
- New Orleans, La. 3
- Norfolk, Va. 11
- Orlando, Fla. 2
- Pittsburgh, Pa. 39
- Providence, R.I. 7
- Raleigh/Durham, N.C. 2
- Rochester, N. Y. 3
- St. Louis, Mo. 5
- San Francisco, Calif. 7
- Tampa, Fla. 8
- Syracuse, N. Y. 6
Pittsburgh
and:
- AUentown, Pa. 7
- Atlanta, Ga. 15
- Baltimore, Md. 12
- Boston, Mass. 11
- Buffalo, N. Y. 17
- Charlotte, N.C. 8
- Chicago, 111. 44
- Cincinnati, Ohio 9
- Dallas. Tex. 4
- Detroit, Mich. 14
- Ft. Lauderdale, Fla. 5
- Greensboro/High Point, N.C. 2
- Harrisburg, Pa. 18
- Hartford, Conn. 10
- Houston, Tex. 2
- Indianapolis, Ind. 5
- Knoxville, Tenn. 2
- Los Angeles, Calif. 3
- Miami, Fla. 10
- Milwaukee, Wis. 2
- New Orleans, La. 4
- New York, N. Y. 61
Services Assigned
at
Maximum Earnings
(Simulation)
362
Page 3
Comparison of Non-Stop Scheduled Services (cont'd.)
Average Daily Services Assigned
Non-Stop
PENNSYLVANIA (cont'd. )
Between:
Pittsburgh (cont'd. )
and:
- Philadelphia, Pa.
- Rochester, N.Y.
- St. Louis, Mo.
- San Francisco, Calif.
- Tampa, Fla.
- Tri City, Tenn.
- Washington, D.C.
at
Services Maximum Earnings
(1973 Actual) (Simulation)
!9 12
4 2
8 4
2 2
6 2
2 2
15 6
363
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
RHODE ISLAND
Between:
Providence
and:
- Atlanta. Ga. 2 2
- Chicago, ni. 4 2
- Cleveland, Ohio 2 2
- Philadelphia, Pa. 7 2
- Washington. D. C. 11 4
364
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simvilated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
SOUTH CAROLINA
Between:
Charleston
and:
- Atlanta, Ga. 6 4
- New York. N.Y. 2 2
- Norfolk. Va. 6 2
- Washington. D. C. 4 4
Columbia
and:
- Chicago, ni. 2 2
- New York. N.Y. 6 2
- Washington. D. C. 2 2
Greenville /Spartanburg
and:
- New York. N.Y. 6 2
- Washington. D. C. 2 2
365
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
SOUTH DAKOTA
Between
Rapid City
and:
- Denver, Colo. 6 4
- Minneapolis /St. Paul, Minn. 2 2
- Salt Lake City. Utah 2 2
Sioux Falls
and:
- Denver, Colo. 4 2
- Salt Lake City, Utah 2 2
;uu>
COMPARISON OF NON-STOP SCHEDULED SERVICES
197S Actual vs. Simulat«si for Profit Maximisation
Flighti
Both Directions
NOTE: This oom|>i»r\son does not include c»t,v-fvj»»rs \i\ which profit
maxmiiKation xH'Ould result in no service, and it does not
uviicato t*\e public service consequences of elimination of
;»dts^uAte frtx^uonoics to meet peak demand.
TENNESSEE
Betxreen:
Chattamx>ga
aivi:
- Charlotte. N.C
Aver;\j;e Daily
Non-Stop
Services
(1S17S Actual^
Services Assipied
at
Maximum Farniivgs
(Simulation^
Knoxville
and:
- Chicago. 111.
- Cincuuiati, Ohio
- HuntsvUle/Decatur.
- Louisville, K>'.
- Memphis. Tenn.
- NashvUIe. Tenn.
- Nevr York. N.Y.
- Pittsburgh. Pa.
- Washington. D. C.
Memphis
aixi:
- Atlanta. Oa. 18
- Birmingham, Ala. 9
- Charlotte, N.C. 4
- Chicago, 111. 19
- Cincinnati, Ohio S
- Dallas, Texas 15
- Da>-ton, Ohio i
- Denver, Colo. i
- Detroit, Mich. 3
- Houston. Texas S
- Indianapolis. Ind. 7
- Jackson Vicksburs:. Miss. 16
'MM
CoinpariBon of Non-Stop SchfJulfd Servicee (cont'd)
l'at;<r 2
TENNESSEF: (cont'd)
Between:
MemphJB (cont'd)
and:
- Kansas City, Mo.
- Knoxville, Tenn.
- Little Rock. Ark.
- LoB Angeles, Calil
- Louisville, Ky.
- Nashville, Tenn.
- New Orleans, La.
- New York, N. Y.
- St. Louis, Mo.
- Shreveport, La.
- Washington, D. C.
Average Daily Servicee Aissigned
Non-Stop at
Service Maximum EarningB
(1973 Actual) (Simulation)
Nashville
and:
- Atlanta, Ga.
- Chicago, lU.
- Cincinnati, Ohio
- Dallas/ Ft. Worth, Texas
- Houston, Texas
- Knoxville, Tenn.
- Little Rock, Ark.
- Memphis, Tenn.
- New Orleans, La.
- New York. N. Y.
- Tampa, Fla.
- Tulsa, Okla.
- Washington, D.C.
ill
Pittsburgh, Pa.
368
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services
(1973 Actual)
Maximum Earnings
(Simulation)
Between:
Amarillo
and:
- Dallas. Texas
- Kansas City, Mo.
- Phoenix, Ariz.
Midland, Texas
Washington. D.C.
Brownsville
Houston, Texas
Corpus Christi
and:
- Dallas. Texas
4
Dallas
and:
- Albuquerque, N. M.
11
- Alexandria, La.
4
- Amarillo, Texas
6
- Atlanta, Ga.
31
- Baltimore, Md.
5
- Boston, Mass.
2
- Chicago, 111.
25
- Cincinnati, Ohio
7
- Cleveland, Ohio
5
Page 2
Comparison of Non-Stop Scheduled Services (cont'd)
Average Daily
Non-Stop
Services
(1973 Actual)
TEXAS (cont'd)
Between:
Dallas (cont'd)
and:
- Colorado Springs, Colo. 3
- Corpus Christi, Texas 4
- Denver, Colo. 25
- Detroit, Mich. 7
- El Paso, Texas 12
- Indianapolis, Ind. 5
- Jackson/ Vicksburgh, Miss. 3
- Kansas City, Mo. 18
- Las Vegas, Nev. 6
- Little Rock, Ark. 14
- Los Angeles, Calif. 26
- Louisville, Ky. 3
- Lubbock, Texas 19
- Memphis, Tenn. 15
- Miami, Fla. 11
- Midland/Odessa, Texas 15
- Minneapolis /St. Paul, Minn. 4
- Nashville, Tenn. 9
- New Orleans, La. 24
- New York, N. Y. 25
- Orlando, Fla. 2
- Philadelphia, Pa. 5
- Phoenix, Ariz. 17
- Pittsburgh, Pa. 4
- Portland, Ore. 4
- St. Louis, Mo. 14
- San Diego. Calif. 6
- San Francisco, Calif. 18
- Seattle, Wash. 4
- Shreveport, La. 17
- Tampa, Fla. 7
- Tucson, Ariz. 6
- Washington, D, C. 14
Services Assigned
at
Maximum Earnings
(Simulation)
El Paso
and:
- Chicago, Illinois
- Dallas, Texas
- Los Angeles, Calif.
- San Antonio. Texas
370
Pages
Comparison o
f Non-stop Scheduled Services (cont'd)
Average Daily
Non-Stop
Services
(1973 Actual)
Services Assigned
TEXAS (cont'd)
Between:
Houston
and:
- Atlanta, Ga.
26
- Baltimore, Md.
2
- Brownsville, Texas
5
- Chicago, 111.
14
- Cleveland, Ohio
2
- Denver, Colo.
9
- Las Vegas, Nev.
6
- Little Rock, Ark.
2
- Los Angeles, Calif.
14
- Memphis, Tenn.
3
- Miami, Fla.
7
- Midland/Odessa, Texas
2
- Nashville, Tenn.
2
- New Orleans, La.
36
- New York, N.Y.
5
- Oklahoma City, Okla.
3
- Philadelphia, Pa.
2
- Phoenix, Ariz.
1
- Pittsburgh, Pa.
2
- St. Louis, Mo.
8
- San Francisco, Calif.
5
- Shreveport, La.
7
- Tampa, Fla.
1
- Tulsa, Okla.
5
- Washington, D.C.
4
Lubbock
and:
- Albuquerque, N.M.
2
- Dallas, Texas
19
- El Paso, Texas
4
Midland/Odessa
and:
- Albuquerque, N.M.
3
- Austin, Texas
4
- Dallas, Texas
15
- Denver, Colo.
2
- Houston, Texas
2
- San Antonio, Texas
6
Maximum Earnings
(Simulation)
2
2
4
2
2
2
2
6
2
2
2
2
14
4
2
2
2
2
2
2
2
2
4
2
371
Comparison of Non-Stop Scheduled Services (cont'd)
Page 4
Average Daily
Non-Stop
Services
(1973 Actual)
TEXAS (cont'd)
Between:
San Antonio
and:
- Albuquerque, N. M.
2
- Atlanta, Ga.
7
- Chicago, 111.
7
- El Paso, Texas
10
- Los Angeles, Calif.
3
- Midland/Odessa, Texas
6
- New Orleans, La.
3
- Phoenix, Ariz.
2
- San Francisco, Calif.
3
Services Assigned
at
Maximum Earnings
(Simulation)
372
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Pi
rections
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
UTAH
Between:
Salt Lake City
and:
- Casper, Wyo.
- Chicago, 111.
- Denver, Colo.
- Great Falls, Mont.
- Las Vegas, Nev. 1|^
- Los Angeles, Calif.
- New York. N. Y.
- Rapid City, S. D.
- Reno, Nev.
- Sacramento, Calif.
- San Francisco, Calif.
- Sioux Falls, S.D.
2 2
15 6
26 14
2 2
7 8
12 6
2 2
2 2
7 4
2 2
11 2
2 2
373
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
VERMONT
Between:
Burlington
and:
- Detroit,
374
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
Between:
Newport- News
and:
- Atlanta, Ga. 2 2
- Chicago, 111. 2 2
- New York, N. Y. 3 2
and:
- Atlanta. Ga. 5 4
- Charleston. S. C. 6 2
- Chicago, 111. 7 4
- Cleveland, Ohio 2 2
- Jacksonville, Fla. 1 2
- New York, N. Y. 14 6
Richmond
and:
- Atlanta. Ga. 8 4
- New York, N. Y. 10 6
375
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
NOTE: This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
WASHINGTON
Between:
Seattle
and:
- Boise, Idaho
2
- Chicago, m.
15
- Dallas, Texas
4
- Denver, Colo.
13
- Kansas City. Mo.
2
- Los Angeles. Calif.
18
- Minneapolis/St. Paul, Minn. 8
- New York. N. Y.
5
- Omaha. Neb.
3
- Reno, Nev.
2
- St. Louis, Mo.
3
- San Diego. Calif.
2
- San Francisco. Calif.
31
Spokane
and:
- Chicago, ni.
2
- Denver. Colo.
3
- Minneapolis /St. Paul. Minn. 4
- Portland. Ore.
8
- San Francisco. Calif.
4
376
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual ys. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not Include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assi
Non-Stop at
Services Maximum Earnin
(1973 Actual) (Simulation)
gs
WEST VIRGINIA
Between:
Charleston:
and;
- New York, N. Y.
377
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily
Non-Stop
Services
(1973 Actual)
WISCONSIN
Between;
Milwaukee
and:
- Atlanta, Ga.
6
- Boston, Mass.
2
- Cleveland, Ohio
6
- Denver, Colo.
6
- Las Vegas, Nev.
1
- Los Angeles, Calif.
4
- Minneapolis/St. Paul. Minn. 12
- New York, N.Y.
16
- Pittsburgh, Pa.
2
- Tampa, Fla.
2
- Washington, D.C.
2
Services Assigned
Maximum Earnings
(Simulation)
378
COMPARISON OF NON-STOP SCHEDULED SERVICE.-
1973 Actual vs. Simulated for Profit Maximization
Flights Per Day - Both Directions
This comparison does not include city-paii-s in which profi
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Assigned
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulatior,)
Between;
Casper
and:
- Salt Lake City, Utah
379
U.S. Senate,
Washinffton, B.C., May 2, 1975.
Mr. George W. .Tames,
Air Transport Association,
Washinffton, D.G.
Dear Mr. James : I have received and reviewed your April 25 letter and the
accompanying study relating to possible consequences of deregulation of the
scheduled air transport industry. I want to thank you for complying with the
subcommittee's request that you undertake a study and for the efforts you and
others have made to complete it in a timely fashion.
A preliminary review of the study suggests that basing the study's computer
model on the predicted behavior of a monopolist, as was done, materially affects
the accuracy and predictive value of the study. This monopolist model does not
take into account the fundamental fact that deregulation means there would be
a competitive, multiairline environment, in which any particular airline would
have to behave as a competitor, not a monopolist.
Even if your study were based on a model that could reasonably identify
"unprofitable" routes in a competitive system, the conclusions you chose to draw
in your letter to me may seriously misstate the probable level of air service
under deregulation. First, several of the nonstop route segments identified by
the ATA as candidates for cessation or reduction of service have in fact already
been abandoned by the trunk carriers under CAB regulation. Second, of those
segments presently receiving nonstop trunk service, many are simultaneously
served by local .service, intrastate, or commuter carriers, who would l)e likely to
continue or even increase service if the competing trunk carrier reduced or dis-
continued its service. Third, a significant number of the segments do in fact now
receive connecting, one- or multistop service by trunks, local service, intrastate
or commuter carriers, so reduction or discontinuance of nonstop trunk service
would certainly not mean cessation of all air service to the commiuiities involved.
One further ix)int. According to United Air Lines, which serves a large percent-
age of the routes you claim would be abandoned if carriers were free to do so,
many of the so-called "unprofitable" nonstop trunk segments are in reality profit-
able. As United explained to the subcommittee staff, they would continue to be
served on a nonstop basis because they are flown in order to feed passengers to
other segments or flights which, when taken together, generate sufl5cient revenues
to cover or exceed costs. Even other nonstop segments you identified for possible
extinction would still be flown, according to United, because they are used to
ferry or position aircraft that are better flown with some passengers than empty.
There is every reason to believe, therefore, that the otlier trunk airlines would
make a similar analysis of their so-called "unprofitable" routes.
It is my understanding that many of the points I have raised were discussed
with you by the subcommittee staff prior to the release of your study, and that the
ATA would make an effort to verify and include then in the final presentation
and release of the study itself. In any case, I am sure you would agree that it is
important to present a fuller and more accurate analysis than is implied by your
April 25 letter to the many governmental, industry and consumer parties who are
genuinely interested in the i.isues of regulatory reform. Accordingly, I would
suggest that a copy of this letter be furnished to those who have been or will be
furnished copies of the study.
The study and your accompanying conl^lusions are now being analyzed more
fully by tlie subcommittee, several executive agencies, and by a number of
economists at various universities. AVhen these analyses are completed, I will
make then available to you.
Thank you for your continuing participation in the subcommittee's inquiry.
Sincerely,
Edward M. Kennedy,
Chairman, Subcommittee on Administrative Practice and Procedure.
380
Air Transport Association of America,
Washington, D.C., May 8, 1975.
Hon. Edward M. Kennedy,
U.S. Senate,
Washington, D.C.
Dear Senator Kennedy : Thank you for your May 2, 1975, letter commenting
on the Air Transport Association's April 25 study on "The Consequences of De-
regulation of the Scheduled Air Transport Industry." We appreciate the elforts
you and your staff have made in reviewing the comprehensive analysis of de-
regulation of the present airline system which we prepared in response to your
request of February 7, 1975.
Based on your May 2 letter, there appears to be a shift in the frame of refer-
ence from your original request to us on February 7, in that your interpretation
of the study is based on a different premise than your original request to us.
1. In your February 7 letter, which is attached, you asked us for "a list of
those city-pairs that are now unprofitable and might be abandoned." We furnished
such a list. As requested, the study looked at each route in the present trunk
system using the latest available data. It identified 372 nonstop routes where
incremental cost exceeded incremental revenue, a condition of unprofitability
which highlights such routes as prime candidates for abandonment. These 372
unprofitable trunk routes, together with the 826 subsidized routes of the regional
air carriers, comprised the list you requested of scheduled airline routes which
"are now unprofitable and might be abandoned."
2. You suggest that our study may be inaccurate because you feel it is based
on the "predicted behavior of a monopolist." We believe such a conclusion is in-
correct since our analysis was based on the competitive, multiairline environ-
ment actually in ))eing in the present route patterns of 18 trunk and regional
air carriers. We attempted neither to contrive a monopolist system nor to recast
the present national system of competitive air service. We did, however, extend
our analysis of the present system by examining the possibility of increased com-
petition entering the currently profitable routes. The results showed a lowering
of profitability on these routes as well as an increase in the number of currently
unprofitable routes.
3. You also suggested that our study may overstate the probable decline in
air service resulting from deregulaton. Mr. Stephen Breyer of your staff made
similar points when we provided him with a preliminary review of our study
on April 17. However, as indicated in my letter of April 25. some service over
the unprofitable routes identified in our study might be continued for such
purposes as "feeding heavier traveled routes or aircraft positioning." Neverthe-
less, as pointed out by United Air Lines, even after taking these factors into
account, its judgement is that approximately 22 percent of all United's nonstop
routes would likely be abandoned. However, it is our belief that some of the '
possible effect of deregulation may well be understated in our report when all
air carrier routes are considered, since deregulation would encourage a heavier
concentration on the more productive city-pair markets and less service in the
marginal markets.
In response to the request in your May 2 letter, we will send a copy of that letter,
along with our response, to those who were or will be furnished a copy of our
original study.
Sincerely,
George W. James,
Senior Vice President. Economics and Finance.
[Sample of the letters requesting an evaluation of the ATA study :]
U.S. Senate,
April 29, 1915.
Prof. Roger Sherman,
Department of Economics, University of Virginia,
Charlottesville, Va.
Dear Professor Sherman : The Subcommittee on Administrative Practice and
Procedure, which I chair, has just completed 10 days of public hearings on Fed-
381
eral regulation of the airlines. During the course of those hearings, Dr. George
James of the Air Transport As.sociation of America testified that in his view
deregulation would result in substantial reduction of air service to small com-
munities, and promised to undertake an empirical study concerning that assertion.
I am enclosing a copy of the completed study and the covering letter from
Dr. James.
The subcommittee would find it most helpful if you would undertake to re-
view the ATA study and provide comments to the subcommittee concerning the
technical, economic, and policy implications of the study. I would specifically
appreciate your views on whether the conclusions stated in Dr. James' letter are
in fact supported by the study itself. As an independent economist of recognized
ability, your assistance in this regard will be most valuable.
If you have any questions, please contact Mr. Stephen Breyer, special counsel to
the subcommittee, at (617) 495-i276 or Mr. Philip Bakes, assistant counsel, at
(202) 224-5617.
Thank you for your assistance and cooperation.
Sincerely,
Edward M. Kennedy,
Chairman.
THE CHAIRMAN OF Th
COUNCIL OF ECONOMIC AC
WASHINGTON
May 1, 1975
Dear Senator Kennedy:
This is in response to your letter of April 28, 1975, requesting
the Council's views on the recent Air Transport Association report.
Consequences of Deregulation of the Scheduled Air Transport System:
An Analytical Approach and the conclusions stated in Dr. George
James' letter of transmittal dated April 25, 1975,
I have asked James C. Miller, Senior Staff Economist at the
Council of Economic Advisers in the transportation and regulation
area to evaluate that study and the letter of transmittal. His report
to me is attached. As you will note, Dr. Miller questions both the
adequacy and the conclusions reached by the ATA study. He especially
takes issue with the conclusion that deregulation would lead to a
substantial reduction in scheduled air service.
Thank you for giving the Council an opportunity to express its
views on this important matter.
Alan G
Senator Edward M. Kennedy
Chairman, Subcommittee on Administrative
Practice and Procedure
United States Senate
Washington, D. C. 20510
OV-UT'O^V^
^e^
5
(382)
383
UNITED STATES GOVERNMENT
Memorandum
Alan Greenspan
Chairman
date: May 1, 1975
III
'I Economist
Air Transport Association's Analysis of the Consequences
of Airline Deregulation
This is in response to your request for my assess-
ment of the Air Transport Association's (ATA's) recent
report, Consequences of Deregulation of the Scheduled
Air Transport Industry; An Analytical Approach, and
whether it supports the conclusions contained in Dr. James
letter of transmittal to Senator Kennedy dated April 25,
1975.
The ATA study is in response to Senator Kennedy's
request for the industry to identify those "scheduled
routes where service might be reduced or eliminated if
each airline could set its own prices and could enter or
exit any market at will" (Dr. James' letter, p.l). The
study concludes that of the 994 trunk-carrier routes
analyzed, "372 could be candidates for elimination under
deregulation, while nearly all of the remaining 622 could
experience sharp curtailment of service" (letter, p. 1) .
The ATA also suggests that the 826 nonstop routes of the
local service carriers identified as presently receiving
subsidy would be candidates for elimination under de-
regulation. The ATA therefore concludes that, "[i]t is
conceivable that the 1,198 unprofitable, and subsidized,
routes might not survive in a deregulated environment
except in limited instances as an adjunct to more profit-
able routes or under large subsidy payments by cities or
the federal government" (letter, p. 2) .
This memorandum evaluates the operations research
model on which most of the ATA's conclusions are based,
ATA's interpretation of that model, the ATA's other
analysis, and the issue of cross-subsidy.
Buy U.S. Savings Bonds Regularly on the Payroll Savings Plan
384
- 2 -
Lockheed's Airline System Simulation-^
With respect to the effects of deregulation on trunk
airline service, the ATA's conclusions arc based primarily
on Lockheed's Airline System Simulation ("simulation" or *|
"model"). The development of this model was begun in 1959
under the overall direction of William A. Gunn. It was
improved during 1960 and 1961 and became operational at'
that time. In its present configuration the model is cap-
able of simulating an airline routing network of up to
250 city pairs. The model's objective is to maximize (net)
earnings and its major outputs are the number and kinds
of (optimal) aircraft and the routes served.
As airline simulations go, the Lockheed model is
a good one, being widely used and well respected. However,
in my judgement models of this type should be used with
extreme caution when put to special uses for which they
were not primarily designed, such as identifying markets
likely to be abandoned under "deregulation" .£./ Models
such as these may be valuable tools for designing new
aircraft (payload, range, et cetera) or for suggesting
to airline scheduling officials which markets to consider
exploiting and which to consider abandoning, but they are
inherently limited when it comes to answering specific
questions such as whether the route between points A and
3 is presently uneconomic, much less whether under a
changed market environment (i.e., deregulation) the route
would be uneconomic and, therefore presumably, abandoned.
\/ This discussion is based on descriptions found in
the following publications: Consequences of Deregulation
of the Scheduled Air Transport Industry; An Analytical
Approach (Washington: Air Transport Association, April 1975);
Lockheed Airline System Simulation (Burbank: Lockheed-
California Company, i;.d.); Revisions to 1969 Lockheed
Indirect Operating Expense Method (BurbanK: Lockheed-
California Company, July 1974); and William A. Gunn, "Airline
System Simulation," Operations Research (March 1964) , pp. 206-
29.
2/ For purposes of this memorandum, "deregulation" may
be regarded as the removal of all economic (but not safety)
regulation and subjecting the industry to the antitrust laws.
This appears to be what the ATA means by the term. It is
notable that none of the Administration proposals presently
under review contemplate this extreme form of deregulation.
Although regulatory controls would be substantially reduced,
some economic regulation would remain.
385
A first problem is the degree of realism that these
models are able to achieve. In my Ph.D. disseration , ±/
for example, I attempted to construct a "realistic" airline
routing model — one that accounted for indivisibility
problems as well as for consumer preferences concerning
the time of day they travel. The result was that a single
run of this one city-pair market simulation took over half
an hour, utilizing the entire 32 thousand word core of a
Burroughs 5500 computer. Since the complexity of the problem
tends to increase geometrically with the number of city
pairs examined, any model which accommodates up to 250 city
pairs must make simplifying assumptions. As I concluded
later in a work based on that disseration,
"The utilization of scheduling models... to
appraise airline efficiency awaits the develop-
ment of technically superior, operational programs.
But just as importantly, much work needs to be
done in the formulation and testing of behavioral
assumptions, for only then can we place a great
deal of confidence in our results. "£/
In terms of the Lockheed model's specific assumptions
(as they relate to the question of uneconomic flight seg-
ments) , the cost issues are perhaps the most important.
While the simulation bases its decisions to add route
segments on "marginal costs," included in these marginal
costs are depreciation expenses (ATA study, p. 5) . The
reason is that the simulation "purchases" aircraft to assign
to the routes brought into the system. During off-peak
hours, the relevant (opportunity) cost of equipment may well
be zero and thus inclusion of depreciation in the decision
calculus tends to eliminate some routes that might well be .
served by a profit-maximizing air carrier. Certainly, we
observe a tendency today for "marginal" routes to be served
during off-peak hours. A similar overestimation of costs
on "marginal" routes may obtain when aircraft have to be
"positioned" to meet the daily cycle, for maintenance, and
for other purposes.
1/ James C. Miller III, Scheduling and Airline
Efficiency (Charlottesville: Department of Economics,
University of Virginia, 1969) .
2/ James C. Miller III, "A Time-of-Day Model for
Aircraft Scheduling," Transportation Science (August 1972),
p. 243.
386
- 4 -
On the revenue side, there is likewise a problem
of allocation. As is well known, carriers are perfectly
willing to engage in the practice of scheduling "feeder"
routes, even though the conventionally-apportioned costs
of such routes may fall short of the revenues conventionally
attributed to them. The reason is that many feeder passengers
connect to other flights of the same carrier on which pro-
fits would be recorded. In other words, the carrier earns
more money by scheduling allegedly uneconomic services.
This is not to suggest that there is cross-subsidization
of routes: merely, the conventionally recorded revenue/
cost margins do not reflect the relevant revenue/cost
margins (i.e., those perceived by the carrier). While the
sequential mapping of flights accomplished by the model takes
into account some of this phenomenon, it may not accomodate
it all and therefore may identify many routes as uneconomic
which a profit-maximizing carrier would choose to operate.
Finally, as will be stressed in the next section, the
model is incapable of simulating competition. It is
designed for an analysis of a single firm. The model can
simulate the reaction of rivals with what appears to be
either of two extreme assumptions (at the option of the
user): (a) completely passive behavior (i.e., rival firms
make no change in their scheduling plans when the initiating
carrier makes changes) , and (b) proportional market shares
(i.e., rival firms react to any schedule change so as to
maintain a fixed market share) . Under the second assump-
tion, the result is clearly a price-regulated monopoly
solution in each market. 1/ Under conditions where there is
no rival Tas must be the case in the analysis performed
for ATA), the same (regulated-monopoly) result obtains.
ATA's Interpreation of the Simulation
The interpretation the ATA has placed on the
simulation excessively overstates the extent of route
abandonments that might take place under deregulation.
As mentioned above, the model is capable of simulating
price-regulated monopoly, but not free and open competition . 2/
1/ See George W. Douglas and James C. Miller III,
Economic Regulation of Domestic Air Transport: Theory and
Policy (Washington: The Brookings Institution, 1974),
Chapter IV.
2/ This, interestingly, contradicts the usual industry
assessment that the result of deregulation would be excess
(not insufficient) competition.
387
At best the model can identify uneconomic routes — and,
as I have indicated, there is reason to believe that the
model tends to overstate these.
A better idea of what the simulation .u'compliGhes
can be obtained by referring to the attached figure,
adapted from Figure 8 of the ATA study. As shown, under
the prices prevailing in 1973, a nation-wide (price-
regulated) monopoly air carrier (or a perfectly administered
price-regulated airline cartel) would schedule 2,500 flights
daily, would realize average load factors of 81.6 percent,
and would earn net revenue of $5.5 million per day (see
also ATA study, p. 7). If all fares were reduced (the
same percentage) , the monopoly level of flights and earnings
would fall, but average load factors would increase (reference
curves labeled "-10%" and "-20%"). These levels of opera-
tions ATA contrasts with 1973 regulated operations of
approximately 7,300 daily flights, a system-wide average
load factor of 55.7 percent, and approximately $1.1 million
in daily net earnings. V If there were deregulation, accord-
ing to the ATA, the model would indicate a deletion of
approximately 4,800 daily flights based on a 1973 level of
operations. With a fare reduction of 10 percent, approxi-
mately 5,130 flights would be eliminated; and with a 20
percent fare reduction approximately 5,322 flights would be
dropped. The ATA also concludes that in eliminating the
flights the industry would abandon 372 non-stop markets
at 1973 fares, 471 non-stop markets at a 10 percent fare
decrease, and 564 non-stop markets at a 20 percent fare
decrease (ATA study, p. 7).
The logic of ATA's assumption of a price-regulated
monopoly outcome under deregulation can be tested with
common sense. An earnings level of $5.5 million per day
(1973 fares) translates into yearly earnings of approxi-
mately $2,008 million. On the basis of 1973 total domestic
trunkline investment of $8,051 million, this translates
into a rate of return on investment (ROI) of approximately
25 percent.!/ Presumably, however, in equilibrium, the
1/ The 1973 levels of flights and earnings are
approximate since they are read from the figure; the ATA
does not present the data.
2/ The ATA study is not clear whether these
earnings are profits before interest payments on long-
term debt and before taxes, after interest payments on
long-term debt but before taxea, or before interest pay-
ments on long-term debt but after taxes. Comparisons of
ROI would of course depend on the definition used.
388
389
- 7 -
industry would reduce its investment base consonant with
the lower level of operations. Assuming a proportional
reduction, the (1973) investment base would be approxi-
mately $2,757 million, indicating a ROI of api)roximatcly
73 percent. To presume that under conditions of free entry
a 73 percent ROI would not attract new entrants is pre-
posterous!
What would likely occur under deregulation can be
inferred from the graph. First, assuming for the sake
of argument that 1973 fares prevailed and that cost levels
did not change, increased scheduling would occur until
load factors had been driven down to approximately 55
percent — the 1973 break-even level. At that point there
would be approximately 7,400 flights daily and the industry's
daily earnings would be approximately $1.0 million. Now,
assuming again that costs did not change, on the basis of
my work with George Douglas, 1^/ one might predict that
average fares (or average yield) would decrease approxi-
mately 16 percent, raising the break-even load factor to
approximately 65 percent. As can be inferred from the figure
(see added straight line connected to "L.F. = 75%" point
on 1973 curve ) , the result would be a decrease in scheduling
from approximately 7,300 flights per day to approximately
6,800 flights per day. 2/ Using ATA's 1973 route abandonment
figure of 372 and applying a rule of proportionality, this
\;ould imply the abandonment of approximately 39 non-stop
city-pair markets. However, any decrease in costs under
deregulation (less circuitous routings, greater management
efficiency, et cetera) would shift all of the curves to the
right. Depending on the degree of efficiency gains, the
result might well be an increase in total scheduling and
an increase in the number of city-pair markets served under
deregulation, not decreases.
ATA's Other Analysis
The ATA also identifies 1,198 local service carrier
routes which are presently receiving subsidy and thus
might not be served if there were deregulation. While
_!/ Douglas and Miller, ibid.
2/ The exact position of this line cannot be ascer-
tained without access to the simulation. The position
shown is an informed judgement. (It must slope downward
to the right since, with lower fares and more passengers,
scheduling must increase in order to maintain the same load
factor level. )
390
undoubtedly some of these routes might be deleted under
deregulation, it would be a mistake to conclude that under
deregulation all, or even a substantial part, of them would
receive no air service.
First, the CAB's subsidy program (in theory nt least)
covers all the losses the local service carriers incur in
serving these routes. Deregulation does not necessarily
imply elimination of the subsidy program. V With continued
subsidy there is little reason to believe that carriers
would not willingly serve the substantial majority of these
markets. 2^/
Second, the combination of subsidy and regulation has
tended to escalate the costs of the local service carriers.
An example with which I am familiar illustrates. In 1973
Texas International Airways, a local service carrier,
applied to the CAB to delete service at College Station,
Texas. Reason? Texas International was losing its market
to a small College Station-based commuter, Davis Airlines.
Both were offering service to Dallas and to Houston. Both
charged $27 to Dallas, while Davis's $20 rate to Houston
was a dollar less than Texas International's. But while
Davis was making money at these rates, the Board was forced
to conclude that Texas International was losing $41 per
enplaned passenger. V In short while Davis's cost per
passenger was in the neighborhood of $20-$27, Texas
International's cost was in the neighborhood of $62-$68.
Thus, under deregulation the local service carriers might
well become more efficient and thus be able to serve some
markets now receiving Federal support without the need of
subsidy.
Third, even if local service carriers abandoned
these markets one must not overlook the outstanding success
of the (unregulated) commuter airlines in providing service
to small communities and serving low-density markets.
According to the commuter airlines' trade association, 131
commuter airlines listed schedules in the October 1, 1974
issue of the Official Airline Guide. Of the 665 airports
"y The regulatory reform proposals the Administration
presently has under review do not alter the Board's subsidy
program.
2/ Indeed, if the subsidy program were improved, then
many more routes might receive service for the same cost to
the Federal Government. [See George C. Eads, The Local Service
Airline Experiment (Washington: The Brookings Institution,
1972).]
3/ See CAB Order 73-4-49 (April 10, 1973).
391
- 9 -
analyzed, 210 (31.6 percent) wera served exclusively by
commuter airlines; 256 (38.5 percent) were served ex-
clusively by CAB-certif icated airlines; and 199 (29.9
percent) were served jointly by certificated and commuter
airlines. In serving a total of 409 airports, the commuter
airlines served over 1,530 city-pair markets. V These
unregulated carriers have accomplished this record despite
constraints on the size of aircraft they may fly.2_/ One
must conclude that of local service markets that were
abandoned under deregulation, most of them would be picked
up by commuter carriers.
The ATA also presents an analysis of flight segment
load factors and concludes that raising system load
factors from 55.7 percent to 60 percent would have required
the elimination of 144,000 (or 37 percent of all) flights
during the month of August 1973, and raising average load
factors to 65 percent would have required the elimination
of 226,000 flights (ATA study, Figure 11).
This analysis is grossly misleading. First, it assumes
that passengers on deleted (low-load factor) flights
are lost entirely. In markets where flights are reduced
(but not eliminated) , many of these passengers would travel
on the remaining flights; although this would raise the
system average load factor, the ATA analysis ignores the
effect. Second, an increase in load factors would pre-
sumably be accompanied by a fare reduction. Although waiting
time would increase, the full cost of service (i.e., ticket
price plus cost of waiting) would diminish. This would
bring forth additional passengers and raise load factors —
another important effect the ATA analysis ignores. Finally,
as mentioned before, deregulation may be expected to increase
carrier efficiency (lowering costs) so that even with the
increased system average load factor the amount of
scheduling might actually increase.
1/ National Air Transportation Association, "AirTran
News" (April 1975), p. 16.
2/ CAB Part 298 regulations limit commuters to
operating aircraft of not more than 30 passengers and not
more than 7,500 pounds payload. (Exceptions to these
limitations are occasionally granted on a case-by-case
basis. )
392
- 10 -
The Issue of Cross-Subsidy
Underpinning the ATA's conclusion that there would
be significant abandonment of service is the assumption
that the industry is presently characterized by a
significant degree of cross-subsidy. Such an assumption
is inappropriate. First, the work Douglas, I, and some
others have done suggests that the extent of cross-subsidy
presently existing is miniscule. For example, the major
alleged source of cross-subsidy is in the structure of
fares with respect to distance (i.e., long-haul flights
subsidize short-haul flights) . However, taking into
account the fact that directly subsidized markets are
predominantly short-haul and the "feeder" characteristic
of scheduling described above, average load factors show
a monotonic decrease with respect to distance, consistent
with the argument that carriers, through non-price competi-
tion, configure scheduling so as to approximate break even,
whatever the distance. Second, I understand from experts
on CAB certificates that a large proportion of the routes
served by trunk carriers which are alleged to be uneconomic
are capable of being abandoned without CAB approval. It is
unreasonable to assume that carrier management views their
respective firms as eleemosynary institutions. If they do,
then surely their stockholderE should be made aware of
this fact!
To the extent that cross-subsidy does obtain, on
economic efficiency grounds it ought to be eliminated.!/
There is no such thing as a "free" lunch. If some un-
economic services are being provided, this means that
travelers on "profitable" routes are paying excessive
fares. Besides the efficiency question, there is an
equity problem. In the words of Richard Caves, "there is
no reason why impoverished grandmothers flying from New
York to Los Angeles should be the ones to subsidize well-
off businessmen traveling between small towns. "2^/ Moreover,
cross -subsidy is a hiaden subsidy. It would appear that
from the standpoint of economic efficiency, equity, and
rational decision making, the subsidy should be made explicit.
1/ Importantly, the CAB has concluded that cross-
subsidy is contrary to the public interest and has taken
steps to eliminate whatever remains. See CAB Order 73-3-82
(March 18, 1974) .
2/ Richard E. Caves, Air Transport and Its Regulators;
An Industry Study (Cambridge: Harvard University Press,
1962), p. 436.
393
- 11 -
If it is in the national interest to provide service
that otherwise would not be provided, then there should
be a Federal direct subsidy. If the interest is "regional",
then perhaps States should defray the costs; if the interest
is purely local, then communities should provide the support.
Conclusions
While the ATA has made a bold attempt to identify
the services that might be abandoned under deregulation,
its analysis is grossly wide of the mark. First,
simulation models, calibrated on industry performance
under regulation, have limited usefulness in predicting
outcomes under deregulation. The particular model utilized
by the ATA, while reoutable, incorporates several assump-
tions that may lead to an overstatement of uneconomic routes .
Second, the ATA has misinterpreted what the model accomplishes.
While the ATA claims the model simulates competition it
does nothing of the sort; rather, it simulates a price-
regulated monopolist. Third, to the degree the model's
outcome can be interpreted, it suggests that, given the
existing cost level, deregulation would lead to only a minor
decrease in service; efficiency gains under deregulation
might well result in more, rather than less, service. Fourth,
while under deregulation some city pairs might lose service
by the certificated (trunk and local service) carriers,
there is good reason to believe that commuter-type (scheduled)
airlines would provide replacement service.
Finally, the argument that under deregulation city pairs
would lose service assumes that there exists a considerable
degree of cross-subsidy. Theory and evidonco does not
support this view, and in any event the Board has enunciated
a policy of purging it from the system. Cross-subsidy is
economically inefficient, inequitable, and, given its
hidden nature, tends to lead to inefficient political
decision making. To the degree there is a public interest
in providing services that otherwise would be abandoned,
such support should come directly from the government.
394
EXECUTIVE OFFICE OF THE PRESIDENT
COUNCIL ON WAGE AND PRICE STABILITY
WASHINGTON, D.C. 20506
May 1, 1975
Honorable Edward M. Kennedy
Chairman, Subconunittee on
Administrative Practice
eund Procedure
Committee on Government Operations
United States Senate
Washington, D. C. 20510
Dear Senator Kennedy:
As requested by your letter of April 28,
I have had my staff analyze the Air Transport Asso-
ciation Study "Consequences of Deregulation of
Scheduled Air Transport Industry." I am attaching
two staff memos by George Eads which contain his
reaction to the ATA analysis. As you will see,
Mr. Eads concludes that the ATA simulation provides
no useful information about the likely effects of
"deregulation" since the system being simulated by
the ATA bears no resemblance to the current U.S. air
transport system. Specifically, the model simulates
the behavior of monopolist; we currently have a system
with multiple competitors.
I hope this material will be of assistance
to you.
Sincerely,
CuJL^(2su^
Albert Rees
Director
Enclosures
395
eXECUTIVE OFFICE OF TME PRESIDENT
CXHiNCIL ON WAGE AND PRICE STABILITY
WASHINGTON, D.C. 30S06
April 29, 1975
MEMORANDUM TO: Albert Rees, Director
Council on Wage and Price Stability
FROM: George Eads, Assistant Director ju.t-
Government Operations and Research
SUBJECT: Analysis of the ATA Simulation Model:
"Consequences of Deregulation of the
Scheduled Air Transport Industry"
In drafting legislation to reform economic regu-
lation of the airline industry, we in the Administration
have always been aware that a balance must be struck between
preserving those features of the current system that are
necessary to protect the public interest while modifying
those which do not. We welcome the input of the Air Trans-
port Association. We believe that they provide a perspective
that needs presenting.
However, the current ATA effort titled "Consequences
of Deregulation of the Scheduled Air Transport Industry" does
nothing to aid us in settling these admittedly complex issues.
It raises, as though they were novel, analytical issues that
have long been settled as the result of extensive study,
evidentiary hearing, and cross-examination. In particular,
it raises the specter of wholesale route abandonment and
flight curtailment as a result of the elimination of "cross-
subsidy," a concept that the Civil Aeronautics Board itself
discredited as a workable feature of the current air trans-
port system in its decision in Phase 9 of the Domestic
Passenger Fare Investigation. ATA resurrects this argument
m the context of an extremely sophisticated simulation of
what purports to be the current air transport network.
However, as I will explain, the system being simulated is
not the current air transport system but one which the
Congress discarded as an option when it passed the Civil
Aeronautics Act of 1938.
The system being simulated is one in which there
is a single monopoly airline, subject to price regulation
by the Civil Aeronautics Board, free to pick and choose
which routes to enter and exit, and totally protected from
396
- 2
entr>' by any other competitor. The model indicates that
this monopolist, if free to maximize his dollar profits
at this fixed fare level, will do so by dropping certain
routes entirely and by cutting back flights on other
routes, thereby raising his average load factor substantially.
The profits that this monopolist could earn under such a
system would indeed be enormous — approximately $2 billion
during the simulation year (1973) .
This result is by no means a novel one. The
analytical proof was demonstrated in an article by
Professor White of Princeton University titled "Quality
Variation When Prices Are Regulated" (Bell Journal,
Autumn 1972). In a paper delivered in the Fall of 1972
at a Brookings Conference, I presented evidence to confirm
the proposition that load factors in monopoly markets are
indeed higher than load factors in competitive markets
provided prices are regulated but scheduling is not. The
ATA simulation provides an indication of what the magnitude
of such a load factor increase might be in such an idealized
system and how profi^^able the monopolist would find this
state of affairs. It conclusively demonstrates that such
a scheme of regulation — monopoly with prices regulated,
entry (save for the monopolist) blockaded, and exit by the
monopolist totally free — is undesirable public policy.
The simulation also shows the potential magnitude
of the profits that might be available to support cross-
subsidization by such a monopolist — approximately $1.6
billion — in the event that the CAB could indeed force
him to serve routes that the model indicates are in some
sense unprofitable. (I would note that the apparent
unprof itability of many routes is an artifact of the
simulation. More on this below.) However, as the CAB
found in the recent New England Service Investigation,
neither the Board nor any other regulatory agency can
compel an unwilling carrier to provide adequate, responsive,
efficient, money-losing service where the carrier can
effectively lower its costs by degrading the quality of
the service (See Board Order 74-7-70, pp. 10-11). The
entire history of the local service airline subsidy program
and the experience of rail passenger service in this country
over the last half-century provides ample additional evidence
of the validity of this finding.
397
This is what the simulation is. What is it not?
Most specifically, it is not a simulation of the airline
system we have in the United States at this time. Indeed,
the closest domestic analog would appear to be the Bell
System. The FCC, therefore, might find the model useful
in its struggle to understand the consequences of allowing
competition in this system. However, this Nation's airline
system is not a monopoly, but is composed of many carriers.
The CAB regulates maximum and minimum fares, controls
entry into new city-pair markets and exit from these city-
pair markets. With regard to entry and exit, however,
the cab's effective authority over nonstop service in
city-pair markets is quite limited. Carriers currently
have — and exercise -- a great deal of freedom to enter
or exit from a large variety of markets under the broad
authority conferred upon them by their operating certifi-
cates. Furthermore, since the Board cannot control the
number of flights a carrier offers in a particular city-
pair market, carriers are free to reduce schedules sub-
stantially from their current levels without Board
approval. The fact that they currently operate what,
according to the model, are vast numbers of unprofitable
flights and routes — not because of CAB compulsion but
because they find it is in their best economic interest
to do so — only casts further doubt upon the credibility
of the ATA results.
We have it on the word of the CAB (see its
Phase 9 opinion in the Domestic Passenger Fare Investigation)
that this scheduling competition, given fixed price, tends
substantially to eliminate excess profits on competitive
routes by driving load factors down to the breakeven level
(where breakeven is defined to include a normal rate of
return). Certain major carriers -- principally, TWA,
American, and United -- have argued that this scheduling
competition is so fierce that it does more than eliminate
excess profits on these competitive routes. According to
these carriers, such practices produce actual losses
absent capacity agreements which would control this level
of competition. A CAB Administrative Law Judge recently
found this latter contention to be contrary to fact in
ruling against such agreements. (See Initial Decision
of Administrative Law Judge E. Robert Seaver, Capacity
Reduction Agreements Case, Docket 22908, served November 18,
1974.)
398
4 -
The crucial point to understand is that if
scheduling competition tends sharply to limit the level
of excess profits that a competitive airline system
generates, the ability of this system to support a large
amount of unprofitable service is substantially impaired.
Thus, the ability of the airline industry to operate in
a competitive environment — competitive as to schedules,
at least — while avoiding the staggering level of losses
that the ATA simulation predicts should today be occurring
demonstrates conclusively that the simulation is faulty
both as a description of current reality and as a predic-
tion of future behavior.
What of the apparently "unprofitable" routes
and flights that the model finds? I would suggest that,
given the way the current domestic air transport system
actually operates, these are more likely artifacts of the
simulation than reflections of reality. In performing
any simulation of this sort, the designer of the model
must make many simplifying assumptions. In the real world,
many costs are common to more than one flight or more than
one route, yet the simulation demands that an artificial
allocation be made. Furthermore, certain routes generate
traffic for the system as a whole, yet no means exists to
properly allocate the revenues produced by this traffic
to these routes. Thus, certain routes appear to be more
profitable than they are in reality; others appear to be
losing money when they, in fact, are not. This is not
the fault of the simulation — arbitrary assumptions are
necessary if the simulation is to be made to work. But
that is why we call the exercise a "simulation." A
knowledgeable airline scheduler familiar with the opera-
tional characteristics of his particular system would
recognize these anomolies and disregard them. A person
unfamiliar with the system — or a computer mechanically
adding up "profits" and "losses" — will not. That is
why in the real world, airline scheduling is performed not
by computers employing simulation models, but by skilled
and experienced men who use such tools as computers and
simulation models merely as initial inputs into the process.
This is not to say that all the loss markets
and flights indicated by the ATA simulation are, in reality,
profitable. Under a less regulated system where both entry
and exit were freer, certain flights and certain cities
would be dropped by the carriers currently providing them.
After all, the current route system is a somewhat crazy
patchwork that originated in the days when the DC-3 was
399
the Nation's largest and most efficient airliner. This
is not to say, however, that all these cities that would
be dropped would lose all airline service. Certain nonstop
flights would be downgraded to one-stop. Certain routes
would fit better into the route systems of carriers other
than those currently providing service over them. Certain
others would be picked up by commuter carriers whose
specialized operations and smaller aircraft allow them
to tailor service closely to the needs of the small
communities .
But when all this had happened, some city-pairs
would indeed have service reduced and others might well
lose all service. However, this would not occur because
of the elimination of cross-subsidy — cross-subsidy does
not now exist to any substantial degree — but would
result from a bidding down of fares. As fares fell, the
breakeven load factors would increase. As the CAB found
in Phase 6B of the Domestic Passenger Fare Investigation,
this vtpuld induce carriers to reduce the number of flights
they offer, thereby raising actual load factors. In some
cases, this new higher breakeven factor might be unsustain-
ahly high, rendering nonstop service on that particular
segment impossible. In this latter case, if it were
determined that the public interest demanded a continuation
of service, public subsidies should be voted. These subsidies
would, however, need to be nowhere near the one billion dollars
per year level mentioned by the ATA document.
400
eXECUTIVE OFFICE OF THE PRESIDENT
COUNCIL ON WAGE AND PRICE STABILITY
WASHINGTON. D.C. 20506
May 1, 1975
MEMORANDUM FOR: Albert Rees, Director, Council on
Wage sind Price Stability
FROM: George Eads, Assistant Director px.-
Government Operations and Research '
SUBJECT: Further Analysis of the ATA Simulation
Model: "Consequences of Regulation of
Scheduled Air Transport Industry"
Since sending you my memorandum of April 29, I
have continued to analyze the ATA simulation results in
more detail. In particular, I have had my staff focus on
the results as they apply to one state — Arizona. I made
this choice because, having grown up in Arizona, I am quite
familiar with the pattern of air service that exists there.
Figure 1 is taken frcsn the ATA report and shows
the routes which would "lose" service under "deregulation."
Table 1 shows the reduction in service predicted by the
model on those Arizona routes that would be retained.
The first thing that should be noted about
Figure 1 is that it includes (as do all of the ATA state
maps) the subsidized services currently provided by the
regional (i..e. , "local service") carriers. The implica-
tion is conveyed that these services would be lost under
■deregulation." This is clearly a false issue calculated
to raise scare headlines. We have made it very clear that
amy Administration bill will not propose an end to the
current subsidy program. This is not to say that con-
siderable improvement could not be made in the program.
Both the CAB (in its study Service To S^.all Communities)
and I (in my Brookings book The Local Service Airline
Experiment) have shown how better service could be provided
at lower cost to the Government by major changes in the
way the current subsidy program is run. The relevant
point, however, is that none of this service will be in
any danger from "deregulation."
401
51-146 O - 76 - pt. 1
402
Ubie I
COMPARISON OF NON-STOP SCHEDULED SERVICES
1973 Actual vs. Simulated for Profit Maximization
Fli^ta Per Day - Both Directions
NOTE: This comparison does not include city- pairs in which profit
maximization would result in no service, and it does not
indicate the public service consequences of elimination of
adequate frequencies to meet peak demand.
Average Daily Services Ar.signed
Non-Stop at
Services Maximum Earnings
(1973 Actual) (Simulation)
ARIZONA
Between:
Fboenix
and:
- Albuquerque, N. M. 4
- AmarUlo, Texas 2
- Chicago, m. 18
. Dallas. Texas 17
- Denver. Colo. 18
- El Paso, Texas 4
- Houston. Texas 1
- Kansas City, Mo. 3
- Las Vegas. Nev, 14
- Loa Angeles, Calif, 29
- - Minneapolis/St. Paul, Minn. 2
- New York, N.Y. 6
- Oklahoma City, Okla. 4
- Portland. Ore. 2
- St. Louis, Mo. 7
- San Antonio, Texas 2
- San Francisco. Calif. 9
- Washington. D.C. 4
and:
- Chicago, m.
9
- Dallas. Texas
8
. . - Loa Angeles. Calif.
10
- San Francisco. Calif.
4
403
This leaves seven routes that are identified
as "unprofitable." These are Phoenix-Palm Springs,
Phoenix-San Diego, Phoenix-Tucson, Tucson-El Paso,
Tucson-Kansas City, Tucson-Palm Springs, and Tucson-
San Diego.
I have directed Roger Mallet to examine the
pattern of air service that these routes received
during July 1973, the mid-point of the year the ATA
chose to simulate. Appendix A lists all flights in
both directions together with the flight itineraries.
As you can see, with only one exception (American
Airlines Flight 374 from Tucson to San Diego) , all
flights offered during July 1973 were segments of
longer flights. They are thus, subject to the cost and
revenue allocation problems I mentioned in my memo of
April 29. This means that any indication by the model
of "unprof itability" needs to be examined very carefully.
Let us focus particularly on the Tucson-Phoenix
segment. During July 1973 there were 18 flights per day
between Phoenix and Tucson and 17 flights per day between
Tucson and Phoenix. (These totals do not include four
daily nonstop flights in each direction by an unsub-
sidized commuter carrier which has total freedom to
enter and exit the market at will.) All of those 35
daily flights were offered as segments of longer flights.
In many cases, these flights clearly were "feed" flights.
For example, American Airlines Flight 177, Boston-
New York/JFK-Phoenix-Tucson is clearly operated as a
means of providing single-plane service to both cities
from the East Coast. It is no more run by American
solely because of its Phoenix-Tucson segment than it
is because of its Boston-New York segment (which I am
certain is "unprofitable" judged by itself) .
This example reflects the fact that airlines
do not schedule flights on a city-pair basis. They are
scheduled on a total flight basis. That is, what the
scheduler tries to achieve is a situation in which the
revenues attributable to a particular flight equal or
exceed the costs attributable to that flight. In
deciding whether or not to include a particular segment
(e.g., Tucson-El Paso segment on American's Flight 116
wTtn an itinerary consisting of San Francisco-Phoenix-
Tucson-El Paso-Chicago-Newark) , the scheduler decides
404
- 3
what additional traffic he can pick up by including
the segment (he doesn't particularly care whether this
is local Tucson-El Paso traffic or whether it travels
beyond El Paso — it is the revenue he is concerned
about) and what additional costs American will incur
by serving the segment. This additional cost may or
may not be related to what the CAB terms "direct
operating expense." "Direct operating expense" is
merely an accounting convention. If attributable
revenues exceed attributable costs, the segment is
included. If not, it is deleted.
Deleting such a segment on a given flight
would only require CAB approval if it represented the
carrier's only service at either of the two cities
under authority of a given "route segment." It is
important to note that CAB approval often is not
required either to add the first nonstop or delete the
last nonstop in a given city-pair market. For example,
nothing in American Airlines' certificate currently
compels it to offer nonstop service in any of the
Arizona city-pairs mentioned in the ATA simulation.
Indeed, during July 1973, American eliminated, without
seeking CAB approval, the Palm Springs segments from
Flights 159, 221, and 622, thus ending nonstop service
by American between Palm Springs, on the one hand, and
Phoenix and Tucson, on the other.
To see how widespread this carrier authority to
add and delete service currently is, I had Mike Roach
check the certificates of the carriers serving the Arizona
markets. He informs me that, perhaps with the single ex-
ception of Frontier's Phoenix-Tucson service, the carriers
involved are currently free to terminate service over all
the indicated segments. In other words, American, under
its current certificate, has no obligation to provide
service in any of the six city-pairs where it currently
is certificated (it does not hold a certificate allowing
it to fly between Kansas City and Tucson) .
This brings me to my final point — service
reductions on segments that the ATA model predicts would
be retained. As you can see, in many cases, the hypo-
thetical reductions indeed would be massive. Chicago-
Phoenix service would be cut from 18 to 8 flights per
day. Again it is vital to be clear about what is and
is not being simulated by the ATA model. As I indicated
405
4 -
in my April 29 memo, the ATA model simulates the
response of a monopolist. I am not surprised that a
monopolist, if free to drop all flights he didn't
wish to offer, and protected from entry by other car-
riers, would choose substantially to curtail service.
He might even drop the amount of service that the ATA
model indicates.
However, the current air transport system is
not a monopoly. It is a competitive system where
carriers face controlled prices, are free to determine
the amount of service they wish to provide at these
controlled prices, and are even free to exit from many
city-pairs without explicit permission of the CAB if
they find their operations unprofitable. The fact
that they currently choose to operate large numbers
of flights and routes which the simulation indicates
are "unprofitable" indicates not that there is cross-
subsidization in the system, but that the simulation
is faulty in the way it determines whether a particular
route or flight if "profitable" or "unprofitable."
406
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407
408
409
Mtiiii
i?J |5i N
410
MEMORANDUM
To: Honorable Edward M. Kennedy, Chairman
Subcommittee on Administrative Practice and Procedure
United States Senate
From: Dr. John W. Drake, Professor of Air Transportation
School of Aeronautics and Astronautics
Purdue University
West Lafayette, Indiana 47907
Subject: Comments re: A.T.A. study of Consequences of Deregulation
of the Scheduled Air Transport Industry
Date: 15 May 1975
Summary
The ATA model misapplies costs In such a way as to
make more segments appear unprofitable.
The ATA model probably understates short and thinly
travelled segment yields, thus making more appear
unprofitable.
The ATA model leaves out all aircraft less expen-
sive to operate than a DC-9-10, thus making more
segments appear unprofitable.
The $50 billion spent on the Interstate system has
Indeed succeeded in providing superior alternative
service over many of the segments enumerated. This
should not be viewed as a catastrophe.
The model used is very questionable for this appli-
cation, for both reasons of oversimpl iflcation and
for more fundamental reasons of methodology.
DRAKE • TRAN«POnTATION CONaULTANT
411
Introduction
The ATA study referred to concern*, the application of a model to the
question of profitability of Individual segments of the airline route
network of the United States. There are a host of questions one may a'.k
about any such study, many of which get Involved with fine points which
do not. In fact, matter too much. The Important thing therefore Is to
try to address the Important questions. These seern to me to be (more or
less 1n order) :
• Does the simulation, as run, use reasonably good
cost data?
• Does the simulation, a', run, use reasonably good
revenue data?
• May the simulation method used be expected to
t1ve the answers It proports to give (I.e.,
reasonably credible answers re. probable route
abandonments)?
My belief concerning these questions Is, briefly: "No," "Perhaps,"
and "No."
Analysis
Basically the simulation steps flights into the network on a segment
by segment basis and computes proported costs of flying and revenue from
the services offered. The difference, profit i is used to determine
whether to add a flight and where te add It, and thus what and how
many routes are candidates for abandonment. Being a difference between
two "i^r^ nearly equal numbers the profit criterion is much more sensitive
to errors in either the cost or revenue estimates than they are them-
selves. Thus the distinct Interest 1n whether or not the cost or revenue
JOHN W. O^^JUM. • TnAr^aPOKTATIOM COr4SUl.TA^4r
412
assumptions used are to be relied upon, since either overly high costs
or overly low revenues will quickly turn routes from profit to loss.
Costs
If all costs of operating were proportional to the number of
passengers carried or flights flown, airline route analysis would be
a vastly simplified matter. However, as in many businesses, costs are
very much a mixture of fixed and variable. Furthermore what is fixed in
the short run may, sometimes, be variable in the long run. In addition,
fixed costs are fixed on a number of levels themselves.* The ATA in its
*J.E.D. Williams in his excellent book "The Operation of Airliners"
(Hutchinson Scientific & Technical , London, 1964) divides costs as follows
in his Chapter 12, "The Anatomy of Operational Costs":
Operator's Overheads, A. Those costs which would be incurred
whether the particular fleet under discussion existed or not.
Fleet Overheads, B. The costs necessarily incurred by having
the particular fleet, whatever its size and whether used or not.
Aircraft Fixed Costs, C. The marginal cost of having one
extra aircraft "in the fleet whether used or not.
Station Fixed Costs, D. The cost of maintaining the basic
establishment of personnel and facility at a station.
Sector Costs, E. Those marginal costs of operating one flight
on a sector which are independent of how the flight is operated.
Hourly Costs, F. Those marginal costs of flying the aircraft
for one hour which are independent of how the aircraft is flown.
Hourly costs per flight are computed on the basis of block time,
i.e., from the start of taxiing out to the end of taxiing in.
Passenger-hour Costs, G. The costs of providing a passenger
with service for one hour not otherwise incurred. For some purposes
it is convenient to consider passenger-hour costs as a charge on
revenue.
Fuel and Oil , H. The cost of fuel and oil loaded at the
refueling point. Fuel is bought by the gallon and metered by the
pound, and produced thrust by the B.T.U. For many purposes (but
not, for example, selection of minimum-cost cruise) fuel and oil
costs may be considered a part of the hourly variable cost F.
(continued)
JOHN W. DRAKE • TRANSPORTATION CONSULTANT
413
study treated costs in a very unrealistic manner. As explained on page
4, "marginal" costs were used to select the flight to be added but then
"after each flight addition is made total operating costs are
adjusted to include the additional system costs* [to produce fully allo-
cated costs]." This prorating of fixed costs of all kinds over the
variables of all kinds on a percentage basis will permit the model to
make incremental decisions in a way which is quite removed from reality.
For example, it may in effect by "paying for" 10% or 129% of a DC-9
maintenance base when as a matter of fact for many of the items which
make up such a base you simply have one or you don't, thus producing a
large fixed and lower variable cost. Rather than being added prorata,
major portions of the fixed costs whould be treated by the model simply
as they are: fixed, by system, fleet, station, etc. This leads to very
much lower marginal costs and a sort of "steady by jerks" behavior of
Charges on Revenue. Certain costs such as the agent's cormiis-
sion are necessarily incurred by the act of selling a ticket. For
the purposes of aircraft operational studies these can conveniently
be regarded as a charge on revenue. Reference in this book is
always to net revenue, that is, the residual revenue after deduction
of items under this heading.
The advantage of this classification is that if values are
assigned to A, B, C, D, E, F, G and H it is possible to see
precisely how changes in the operation, such as fleet-size, schedule,
route-structure, load factor, operating technique, etc., affect the
economy of operation. The snag is the difficulty of assigning
costs under these headings, but this analysis must nevertheless be
undertaken if the operator is to ensure that the operating posture
is at maximum profitability.
*fixed costs
i.e., a big "jerk" when one goes to two DC-9 maintenance bases, opens a
new station, or buys a new type of equipment.
JOHN W. DRAKE • TRANSPORTATION CONSULTANT
414
a substantial fixed cost and immediately pour flights into the most
profitable routes. However, once that were done it would \ye created
much of its infrastructure and would find it profitable to keep adding
flights on an incremental basis in a manner very different than the way
the model used in the ATA study does in its phase 1.* It would add more
until it came to a step in the fixed costs and then hesitate until
traffic pressure built up. A good many of the "more" would, it seems to
me, be on the routes the ATA suggests are threatened, albeit mostly
between cities each of which already had a station (and thus many fixed
costs).
If one were simulating competitive practice it would mean that, in
the above example, the stations would need to be of the same carrier
(although interchange flights could be used as well as other techniques).
The most important thing however is that in a competitive environment
everyone's fixed cost steps are not identical in time and place. One
carrier may be reluctant to add a flight of a certain kind but another
carrier which has just bought the right aircraft type may well be anxious
to do so.
In sum, I believe the treatment of costs in the first phase of the
model used (the fully allocated cost phase) greatly distorts the models
process of adding flights,^ and does so because of the model's demand/
frequency assumption, in the direction of concentrating flights in the
♦i.e., as shown in Figure 2 page 4 of the ATA study and expanded upon in
the Lockheed brochure CTR 2007, Lockheed Airline System Simulation,
revised May 1970, charts 884-09229 through 886-09229.
"•"ibid., Lockheed chart 889-05180.
*^^One may ask why this was done. I believe there are a number of reasons
JOHN W. DRAKE • TRANSPORTATION CONSULTANT
415
major markets.*
Revenues
Revenues are less clear. Individual segment-by-segment coach fares
were used. They were then reduced by a constant percentage to reflect
recent system-wide average discount experience. Thus short haul flights
and lightly travelled segments were discounted to the same degree as long
haul and dense segments. I do not have data immediately at hand from
which to analyze discounts including the effect of the fare pro-rate on
joint fare routings by segment type; however, a few observations are
obvious.
1. By Trunk Carrier, in 1969, there is a recognizable
tendency toward less discounting in shorter hauls based
on comparing each carrier's % Full Fare revenue from the DPFI
Phase 5 Decision, Appendix B, with the coach lengths of
haul , Appendix L.
2. Many of the present day (1975) discount fares do not
apply on thin routes (e.g., no TGC from IND->SEA) nor
on short routes (e.g., no Bicentennial below 750 miles,
no demand scheduling below very long haul).
but in this case it is most probably a combination of the background
of the modelers (technical more than economic) and the state of the art
when the model was begun (ca. 1959). For further discussion of the
problems associated with models not doing what decision makers want
models to do, see my book: The Administration of Transportation Model-
ing Projects, D. C. Heath, Lexington, Mass. , 1973.
*I do not wish to suggest that I propose the modifications I have sug-
gested as all that is needed to perfect the.model under discussion. I
recognize full well, for example, that if my modifications were made
one could get vastly different answers if you ran the model from zero
frequencies upwards and from many frequencies downwards. It would be
more realistic, however, as this is exactly what happens in real life.
In truth, I favor a mathematical programming approach using origin and
destination data rather than segment flow data. Such a model would
break the perpetuation of the present route structure just because it
is the present route structure. Such a mathematical programming
approach is now just within the state of the art, I believe. See the
discussion later in this memo.
JOHN W. DRAKE . TRANSPORTATION CONSULTANT
416
Thus, given a choice, I would have to guess that the ATA underesti-
mated the "endangered" segment actual gields. The prorate situation is
more of an unknown, however, so to be certain one must have the real
data.
Aircraft Types
Clearly another way in which the ATA study suggested such a large
number of endangered segments was by its choice of equipment. The list
on page 3 is long enough but not diverse enough:
ATA Possible
B-747 * B-747
L-lOll/DC-10 * L-lOll/DC-10
DC-8-61 * DC-8-61
B-707-300B/DC-8 B-707-300B/DC-8-50
B-727-200 * B-727-200
DC-9-30/B-737 * DC-9-30/B-737
DC-9-10 DC-9-10 (?)
* Convair 580
* FH-227B
Allegheny Conversion of
Nord 262 (Mohawk 298)
* DHC-7
Short SC-30
* Fairchild/Schwearingen
Metroliner
Clearly not all need to be included--perhaps only the asterisked
ones. Running time would go up slightly but I dare say some endangered
segments would suddenly survive, which leads "VoiU!" to the third level
carriers and their willingness to step in. To be sure, as the ATA says,
Lafayette, Indiana, (where I write this)-Chicago service by Allegheny is
TRANSPORTATION CONeULTANT
417
endangered. It's so endangered it's been gone for well over a year.
But we have eight (weekday) non-stops to Chicago on fast pressurized
Air Wisconsin planes. Who is suffering?
Interstate Highways
One must also not lose sight of another factor: the interstate
highway system. I will use Indiana as an example since I now reside
there and travel extensively. I reproduce the map from the ATA study
and the same map with the interstate highways added. Having now spent
something approaching $50,000,000,000 to build a vast system of inter-
state highways, is it any wonder that Indianapolis - Fort Wayne service
might be threatened, and so should a lot of the others? We should not
cry if we sometimes succeed in transportation! This does point to the
most important of all aspects of this whole deregulation questions,
however, which is simply that of "What is our national transportation
policy?" As of now we don't have one. We need one. Otherwise we are
in the silly situation of crying over things that either won't happen or
that we've spent billions trying to get to happen.* With no integrated
intermodal transportation policy, we don't know when we are well off!
Model Methodology
One must still address the question of whether the model used is
fundamentally appropriate to the problem. That is, if it were merely
improved and had everybody's nit-picking objections taken care of and
computer time were no object, could it do the desired job in this
*0r in the case of the trains, happened when we didn't want them to,
because of disjointed policies toward air, rail, water and highway
transportation.
JOHN W. DRAKE • TRANSPORTATION CONSULTANT
51-146 O - 76 - pt. 1 - 28
418
Map of
INDIANA
ATA Study Map of Indiana
JOHN W. ORAKB
. TRANSPORTATION CONSULTANT
419
Map of
INDIANA
ATA Study Map of Indiana with the Interstate Highways Added
JOHN W. ORAKK • TWANi^OWTATION CONSUI-TANT
420
11
instance? I have hinted at the answer in tny earlier footnote (see page
7 at the end of the costs section). Let me reiterate and expand
slightly.
1. If the model would realistically simulate business
behavior by incrementally adding flights (using good
cost steps, si i pes, etc., etc., etc.), it wouldn't
reproduce its results when run backwards, taking away
flights from a vast superfluity, but both answers would
be equally valid! They would simply highlight a major
policy question: Should the government still view air
transport as an Infant industry needing a boost, or
not?
2. If one really wants to see what segments of a route
network the U. S. ought to want to have in the interest
of maximizing its efficient use of resources, use of
the existing segment flow data ("service segment data"
from the ER 586' s) is the wrong way to go. A mathe-
matical programming approach using origin and destina-
tion data, though not without problems, is a better
way. Ideally it should be a mixed-integer program but,
depending upon the time horizon, that is not as essential
as it first appears. Such analyses are now within our
grasp and should be done.
JOHN W. DRAKK • TRANSPOfrTATION CONSULTANT
421
UNIVERSITY OF CM.lKOIiM A, lU.Kkl ,1 .i:V
"iil
June A, 1975
Senator Edward M. Kennedy
Chairman, Subcommittee on
Administrative Practice and Procedure
United States Senate
Washington, D.C. 20510
Dear Senator Kennedy:
Please forgive my long but unavoidable delay in responding to your letter of
April 29, requesting an evaluation of the April 25 letter of Dr. George James,
and on the Air Transport Association report used to back up the main points in
that letter. The previous letters of other economists have covered most of the
Important weaknesses of the James letter and the ATA report, so I shall limit
myself to a few additional comments .
As previous comments on the ATA model have Indicated, Its primary weakness is
that it assumes that in the absence of regulation, the carriers in any given
market would behave as a single monopolist, at least'/'the service quality
offered. Thus, the report argues that without regulation, flights on currently
unprofitable routes would be abandoned, and flights on profitable routes would
be cut back to achieve maximum profits.
This conclusion is not only based on faulty analysis (as previous comments have
already pointed out), but also, the study starts off with what seems to me to
be a totally mistaken assumption about how the CAB currently affects airline
behavior. The study implicitly assumes that there is something which the CAB
is doing, through exercise of Its legal powers, to prevent flight cutbacks on
main routes, so as to prevent load factors from rising to a profit-maximizing
level (mentioned to be 81 per cent). And yet there is nothing which the CAB
has done to prevent "profit-maximizing cutbacks" in flights to such a load fac-
tor. It does not have to, because the airlines compete among themselves in
service quality, driving load factors down until profits reach a normal level.
Why this would change in the absence of CAB regulation is never stated, either
by Dr. James or by the report (antitrust laws would of course prevent collusion
in restraint of trade on the part of the airlines in the absence of regulation.
Just as they do now). It would thus appear that the ATA study is vesting the
CAB with powers which it does not have, and which it clearly does not need. As
a result, the study is irrelevant to the question at hand.
The second point which I want to make regards the empirical validity of the
results of the ATA study. It asserts that if money-losing routes were abandoned.
422
372 routes would lose Crunk service. Professor Peltzman, In his excellent
comment, points out that of these, there are seven Texas and California routes
which currently receive service from non-subsidized intrastate carriers at
below-CAB fares.
I count even more such routes than Professor Peltzman: in addition to the
ones he mentions ar§ Fresno-Los Angeles, Fresno-San Francisco, Stockton-
San Francisco, and Los Angeles-Palm Springs. Thus, all told, eleven of the
routes which the ATA report predicts would lose service in the absence of regu-
lation are in fact being served by non-subsidized carriers at below-CAB fares .
Third, as any reference to the Official Airline Guide will Indicate, commuter
carriers have served profitably many routes of too low a density for even the
subsidized local service carriers. Nearly all routes currently served by the
trunks are of higher density than that. Thus, any town which lost trunk air
service would be almost certain of being served by a nonsubsldized commuter
carrier, and many cities would stand a good chance of being served by a larger
carrier such as PSA or Southwest Airlines.
I am most inclined, however, not to believe that these routes are unprofitable
in the first place. As Dr. Eads has commented in his letter of May 1, the
trunk carriers are free to abandon service on most of these "unprofitable"
routes, and the fact that they have not done so indicates either that the
routes are profitable, or that the managements of the airlines represented by
the ATA are incompetent, in failing to maximize profits given the existing
regulatory structure. I believe that the routes are profitable. To the extent,
then, that the CAB is not currently requiring the airlines to provide as much
service as they do on these "unprofitable" routes, it is difficult to see how
elimination of CAB regulation would have any Impact whatsoever on service
provided. Again, the ATA report is basically irrelevant as regards the effects
of CAB regulations.
To conclude, I think that the ATA study is an interesting (if highly Inaccurate)
exercise to determine what would happen if, by regulatory fiat, one carrier
were granted a complete monopoly on every route in the country. But it has
little if anything at all to do with the potential effects of deregulation of
the trunk airline industry in the United States.
Sincerely
Theodore E. Keeler
Assistant Professor of Economics
TEK:jst
423
UNIVERSITY OF CHICAGO
GRADUATE SCHOOL OF BUSINESS
5836 GREENWOOD AVENUE • CHICAGO, ILLINOIS 60637
May 5, 1975
Senator Edward M. Kennedy
Chairman
U. S. Senate Subcommittee on Administrative
Practice and Procedxire
Senate Office Building
Washington, D.C. 20510
Dear Senator Kennedy:
I am pleased to reply to your request of April 29 for a review of the
Air Transport Association's study on the possible consequences of
deregulation of the airline industry.
In my opinion, the weaknesses of this study are so glaring that the
study simply cannot support the case the ATA wants to make. In fact,
if it does anything, it strengthens the case for deregulation.
The heart of the study is a list of 372 nonstop routes which "are prime
candidates for abandonment under deregulation." One indicator of the
weakness of the study is its inclusion among these 372 routes of seven
Texas and California routes already being served by non-CAB- regulated
carriers at below-regulated rates. These are:
San Francisco-Sacramento
San Francisco-San Diego
Los Angeles- San Diego
Dallas-Houston
Harlingen-Hous ton
San Antonio-Houston
San Antonio-Dallas.
Clearly, if unregulated service is already being supplied to these markets
it is absurd to claim that they will be left without service under deregu-
lation. Since the entry of unregulated carriers has, in virtually all these
markets, led to improved service, a legitimate question may be raised against
the ATA's claim that extending deregulation to the remaining 365 markets will
lead to the cessation of (nonstop) service to them. Indeed, if one checks
this list, numerous instances will be found where nonstop service is in fact
being provided by lightly regulated commuter air carriers. I comment on this
subsequently.
I believe that the major weakness of the study, and perhaps the primary
source of anomalies like those I have Just cited, lies in its methodology.
This methodology is not described clearly, but it appears to rely heavily
424
on estimates of the profit or loss engendered by the addition of nonstop
flights to specified city pairs. The defect of this methodology is im-
plicitly recognized in the April 25, 1975 covering letter to you from
George "w. James, ATA Senior Vice-President—Economics and Finance, in
which he states that "it is recognized that some [of the listed "unprof-
itable routes"] might be held [under deregulation] for such reasons as
feeding heavier traveled routes or aircraft positioning." This appears
to recognize that a nonstop route can be profitable even if the traffic
generated on that route alone could not support nonstop service. For
example, there may be 30 passengers between City 1 and City 3, and another
30 between intermediate City 2 and City 3- These may separately be insuf-
ficient to warrant 1-3 and 2-3 nonstop service, but may make a 1-3 flight
with a stop at 2 profitable. Consequently, the total market involved can
support what will show up as two nonstop flights (1-2 and 2-3). Thus,
when a particular segment of a longer route cannot support nonstop service
by itself, it is invalid to infer that this segment will be abandoned.
The vast majority of the "prime candidates for abandonment under deregula-
tion" appear to have precisely this characteristic; they are primarily
segments of longer routes. The extent to which this is the case may^be
indicated by an examination I made of every tenth city pair on the list of
372 in Exhibit B of the ATA study. Of the 37 pairs I examined, 7 m fact
had no nonstop service listed in the April 15, 1975- edition of the Official
Airline Guide (numbers ll^O, 210, 280, 310, 320, 350, 360 on the ATA list).
Of the remaining 30, there was no case in which more than half of the non-
stop flights were operated exclusively between the two cities. In one case,
(number 90), half the nonstop flights did originate in one city and terminate
in the other. In each of the remaining 29, the majority, and in most cases
virtualiy all, of the nonstop flights were segments of longer routes. It
may also be of some interest that 7 of the 37 city pairs, including one of
those which in fact had no nonstop service by regulated carriers, had non-
stop service provided by commuter airlines (numbers 30, 120, 140, 150, 170,
200, 220).
This examination leads me to conclude that the ATA study simply cannot be
relied upon to predict the likely configuration of airline service under
deregulation. Its inclusion of so many markets already being served by non-
CAB-regulated carriers may in fact indicate the potential that reduced
regulation has for improving service in other markets. But, in any case,
the spectre of mass abandonment of nonstop service under deregulation is
produced by a methodology so flawed that it merits the most extreme
skepticism.
There are other aspects of the study that also merit skepticism. For exam-
ple, the implicit identification of service quality with nonstop service is
questionable. There is clearly a tradeoff between limited nonstop service
and more extensive service with seme stops. The conclusion that lower fares
425
will always reduce flight frequency on profitable routes is also question-
able, because it is based on the existing regulated airline cost-structure
and regulatory restriction of entry. The plain fact is that where entry by
unregulated carriers has occurred, as in Texas and California, lower fares
have widened the market sufficiently to produce more rather than less fre-
quent flights.
I hope that my comments are of some assistance to you.
Sincerely vours,
/ /,
Professor of Business
Economics
SP:gb
426
UNIVERSITY OF VIRGINIA
JAMES WILSON DEPARTMENT OF ECXJNOMICS
CHARLOTTESVILLE
May 12, 1975
The Honorable Edward M. Kennedy
Chairman, Subcommittee on Administrative
Practice and Procedure of the
Committee on the Judiciary
United States Senate
Washington, D.C. 20510
Dear Senator Kennedy:
I write in reply to your request of April 29, 1975 for
a review of the Air Transport Association of America study
_,..ied
V..V- *-6..w >- r Even given this in-
adequate scope, the study's categorization of routes as "profit
able" or "unprofitable" is unreliable and cannot sustain the
implications under its assumptions, namely that certain routes
will be denied service under deregulation.
The conclusions stated in Dr. James' letter cannot be
supported by the ATA study. No claim that "scheduled air
service might be eliminated" is possible because no evidence
is presented showing that a new entrant would not be motivated
to offer service. Indeed, the ATA analysis implies enormous
profit for the Airline System, which under deregulation should
invite abundant new entry and thereby undercut any claim that
service would be eliminated. Nor is there any basis for
assertions at page 2 that subsidized routes might not survive
or that service would be unstable. Claims that lower rates
would make many more routes unprofitable and would increase
subsidy needs also cannot be supported by the ATA study.
427
The outstanding weakness of the ATA study is that it gives
no attention to the functioning of market processes, which
surely will accompany deregulation. In particular, despite
the enormous profit rates implied by the ATA simulation, the
reader will look in vain for any consideration of the possibility
of entry into the airline industry by a new firm. The analysis
simulates the action of a gigantic Airline System controlling
completely the provision of airline service without giving any
consideration to the possibility that a firm outside this organi-
zation would see how profitable the airline industry is and
decide to enter it. Although it thereby casts the airline in-
dustry virtually as a monopoly and examines how much service it
would offer, the study never pursues the equally important
monopolist's decision about fares, but rather it merely maintains
1973 fares. So even as an analysis of monopolistic organization
of the airline industry the study is incomplete.
Any study of effects on the airline industry of deregulation
must focus on the prospects for entry by new firms. For it is
through entry and exit that competitive markets achieve their
efficiencies. A well known and most crucial feature of current
airline regulation is its restriction on new entrants seeking to
provide various categories of airline service. Indeed, the exit
of firms from the industry, or the termination of service between
city pairs which is emphasized in the ATA study, is a much less
important issue than entry, particularly when exit often is
already allowed much more readily than entry under current regu-
latory practices. To examine the consequences of deregulation
it is essential that entry and exit be probed.
The ATA study ignores the possibility of new entry and
indeed it does not even consider 1,267 non-subsidized routes of
regional air carriers which already are in existence. As a con-
sequence its implications simply are of no interest for the
question at issue, namely, what will happen as a result of de-
regulation? Having implicitly ruled out by assumption a major
source of airline service to be expected under deregulation, that
by new carriers, any claim by ATA that service will not exist in
any market is obviously unreliable. One need not seek mistakes
in calculations or faulty execution of ATA ' s method; the method
of analysis is inadequate and inappropriate in its assumptions
and in its design, and therefore it is incapable of predicting
loss of service under deregulation. Ignoring new entry in this
way is also certain to lead to misleading results because
428
profit is so high that entry will be motivated.
One flaw does seem obvious in the study, however, even
apart from its excessively limited scope in ignoring new entry,
although not enough information is provided in the study to
allow definitive analysis of the flaw's effects. The division
of routes by ATA into "profitable" and "unprofitable" categories
apparently does not consider explicitly that passengers carried
on some routes labeled "unprofitable" by ATA actually travel
farther and cause profit to be earned on routes labeled "profit-
able" by ATA. The importance of this possibility is that it
means part of the profit assigned by ATA to "profitable" routes
actually should have been assigned to routes classified by ATA
as "unprofitable." Thus the profitability categorization by
ATA is potentially spurious, and it certainly cannot sustain
any claim that routes categorized as "unprofitable" under ATA ' s
method would not continue to be served by the source of service
ATA considered (not to mention alternative sources, which were
arbitrarily and inappropriately ignored in the ATA study).
It is possible that some of the economies claimed in the
ATA study through higher load factors actually can be achieved
under deregulation, because current regulatory practices can
lead to lower than optimal load factors, which raise costs. We
presently rely on control over price plus competition in non-
price areas among existing air carriers who are protected from
new entry, as our means of economic regulation of airlines. If
price is set too high under this arrangement the competing
carriers will have an incentive to schedule many flights because
flights are so profitable (see George W. Douglas and James C.
Miller III, Economic Regulation of Domestic Air Transportation:
Theory and Policy (Washington, D.C.: The Brookings Institution,
1974) for an excellent analysis of this consequence of current
regulation), with the result that load factors will fall. The
competition of existing airlines thus effectively raises costs,
at least until only normal profits are earned and further non-
price competition is not motivated. If new carriers were allowed
to enter the market, price control would not be needed and so
such a result could not persist, because the new entrants would
force price down. The ultimate equilibrium would be tailored
more to consumers' preferences between flight frequency (and
other non-safety aspects of service quality) and price. Such
important consequences of deregulation were not broached in
the ATA study, however.
The ATA study also implies that profitability will increase
enormously under deregulation. Profit from airline services as
429
considered by ATA will more than double while the amount of
service and. in turn, the needed level of investment will be
only a fraction of what it is now. The implied rate -of -retu:
on airline investment is consequently very high We have
abundant evidence that without laws preventing them, high
rates of return always bring expansion and new entry, so the
arbitrary exclusion of such consequences by ATA obviously is
crucial to the results obtained. It is inconceivable that
accompanied by high prof it . for such results together would be
inconsistent with the functioning of competitive markets.
It should be mentioned here again that the ATA study
fectL^ ^ -jaintains 1973 fares. Were the Airline System pro-
tected as fully from new entry as the ATA study assumes, the
System almost certainly would move to higher fares and, depending
on consumer responses which are not treated in the study, it is
possible that routes would then be even more profitable and
in lin^t^ ^'"^"^''°"'-^^^^"'^^ ^y ^^^ ^""I'i "°t be motivated. Thus
in addition to ignoring new entry, by considering no mechanism
for changing price from 1973 levels (except for arbitrary per-
centage reductions due to causes that are never explained) ^the
tltl "" Ignores the role of market mechanisms fo? determining
III in^lu ' ^' '"'■^^"" °"'P"^- Although it may be of UmUed
use m the present regulatory environment, since the ATA study
does not allow for the functioning of market processes it ?s
wholly inadequate to deal with the consequences of der;g;iat ion .
ATA J"/°"^l"ding so firmly that the findings of the present
ATA study are without merit I do not wish to criticize the ATA
ev^'tu:ti;rc;n/' "^^ "°' unreasonable of the iTA^ti'^urn^for''
evaluating consequences to the simulation model which it already
RS/jbm
)herms
'rol^ssor of Economics
430
Purdue University
KRANNERT GRADUATE SCHOOL
O F
INDUSTRIAL ADMINISTRATION
KRANNERT BUILDING
WEST LAFAYETTE, INDIANA 47907
May 9, 1975
Senator Edward M. Kennedy, Chairmaji
Subcommittee on Administrative Practice
and Procedure
United States Senate
Washington, D. C 20510
Deax Senator Kennedy:
This letter is in response to your correspondence of May 1, 1975,
which asked me to comment upon the Air Transport Association Study,
"Consequences of Deregulation of Scheduled Air Transport Industry."
My basic conclusion is that the ATA simvilation is an inappropriate
model to use in order to investigate the resulting changes in a
deregulated narket for the tr\ink earners. Its results of elimina-
tion or vast curtailment of service must then be considered highly
suspect. In this regard, my analysis echoes those of the Greenspan-
Miller and Rees-Eads letters, which you were so kind to enclose.
The crucial question the committee faces regarding the issues of
deregulation is the following: "What system of controls (if any)
should be imposed in order to maJte the public best off?" From an
economic standpoint, I will argue that a competitive market is best
for a number of reasons.
I feel that a closer examination should be made using the examples
of intrastate commerce (not under CAB price regulations), in order
to investigate the possible consequences of deregulation. Two of
my colleagues, Ron Adelsman and Mike Pustay provided me with useful
insights into the problem. My opinions expressed here are my own
and do not reflect the views of Purdue University.
I hope this material will be of assistance to you; thank you for
your consideration.
Sincerely,
a.,..^ou .'^ih.. ■^y/'^,
Andrew Whinston
Professor of Economics, Management
and Computer Science
AW/lg
End.
431
COMMENTS ON AIR TRANSPORT ASSOCIATICHJ' S ANALYSIS
CF THE CONSEQUENCES OF AIRLINE DERBGrULATION
In the ATA stxidy, Dr. James states that there are basically three
ajrproaches one can take in analyzing the consequences of a deregulated
maxket: simulation, macroeconomic, or study of a deregulated environment.
The macroeconomic model is dismissed as "intellectually elegant, has the
dlssuivantage that it cannot be validated." Two examples of the last
approach are given: the pre-1938 era and the California (intrastate)
market. The author discards the first beca\ise the airline market today
is vastly different (l agree), and he casually dismisses the second by
terming it "chaotic." Thus, ve are left vrLth no choice but to take the
simulation approach.
There is nothing inherently wrong with performing a simulation per
se, and certainly the Lockheed simulator is well respected and widely lised,
as was pointed out by Dr. Miller in his letter (page 2). But, if the model
is misused by subjecting it to a ta^k for which it was not designed and
is ill prepared to handle, we face possibly disastrous consequences for
timsting its output, as was mentioned by Dr. James himself. As has been
described by the other letters, the simulation is indeed faulty in a
number of areas. Furthermore, the ATA seems somehow to have misconstrued
the present legislation before the committee. As a result, the conclusion
that of the 99U trunk-carrier routes analyzed, "372 would be candidates
for elimination under deregulation, while nearly all of the remaining 622
could experience a sharp curtailment of service" (page 1) has no legitimate
basis for support.
In order to bolster the claim that the output of the model is in
error, one can take two approaches : discredit the model itself by point-
ing out its inadeqiiacies and/or show that the output provides irrational,
answers to the input questions. At this jvmcture, I will reiterate the
main problems in using the Lockheed simulator to answer the question of
"What would happen to flight service in a deregulated environment?"
432
Faiilts of the A3A Simulation Approach
The model does not simulate competition; it assvmies either a monopolistic
airline or a firm with a constant market share. Since the proposed
legislation of deregulating prices, if passed, wovdd have the primary
impact of stimulating competition, a model that ignores this basic
issue is inadequate at best.
The city-pair method of analysis is a heuristic approach to the problem
that has two attendant faults. Since a full-costing approach has been
taken, some common fixed costs, such as depreciation, mxist be artificially
allocated. This procedure is not an Incremental analysis as was re-
quested by the committee. Ftcrthermore, the concept of one leg of a
multi-stop trip being a loss leader for the entire tour has been sup-
pressed.
.B
Not Very
profitable Profitable
Small Profits
Small Profits
Thus, although Profit could well exceed Profit , since the leg AB
is a loss leader, fliglit service wovQd erroneously be cut from city A
to city B. Tliis can result when most of the passengers from A wish
to travel to C.
Althoi\gh the ATA study does investigate the effects due to the price
elasticity of demand (cuts in fares of 10^ and 20^), it completely
ignores the effects due to the service elasticity of demand. Suppose,
for the sake of argument, that service between cities A and B were
433
- 3 -
curtailed. Then, those displaced passengers would have three choices :
cancel their trip, travel by another mode of transportation, or travel
CO one of the remaining flights. The proportion that exercised the
last option would increase load factors and profits of the airlines
retaining service. This service elasticity has not been ta>.en into
account by the AIA study. It would manifest itself most strongly be-
tween city-pairs at longer distances and with few current flights. In
the extreme case, vdiere there was only one flight, that airline would
control the market and would act as a monopolist. If his return on
investment were inordinately high, competition would reenter the marketj
thus reducing economic profit.
The other line of attack against the conclusions of the AIA study is to
investigate the reasonableness of its conclusion. Again, most of these
points have also been mentioned previously.
Issue
1. The output of the ATA study shows that given 1973 costs and revenues,
the trunk airlines would eliminate or curtail service if they could do
so. As a matter of fact, those airlines do have the capability of
vastly cui't ailing- their service under present CAB regulations, but for
"some reason" have chosen not to do so. Tlie certificate of serive
only imposes lower bounds (usually one or two daily flights) into and
out of a city — note: not between city-pairs. Thus, the trunks can
presently cut their service levels, a fact that casts doubt upon the
validity of the ATA model. Since airline managements are presumably
profit maximizers, the fact that service has been maintained is an
indication that they feel that there is a realization of incremental
profit, contrary to the sim'olation results.
2. As \«is indicated by the other two letters operating at so-called
optiraality wo-old yield a $2 billion profit with a ROI over 70^, a
patently ridiculous result which can occur by misapplying the model
which ignores competition to its extremes.
3. The proposed legislation at present does not deal with elimination of
subsidies to the local airlines, a complex issue in its own right.
51-146 O - 76 - pt. 1 - 29
434
Yet, the ATA study monetheless lumps these 1,198 local service routes
Into their results, claiming (with no support) that these too would
be candidates for elimination. a3ieir inclusion in the graphs (as
pointed out by George Eads) appears to be a smoke screen aimed at
buttressing their argument.
Having hopefuUiy laid to rest the specter of mass cancellation of flights
(since this tactic is presently available and has not been exercised), I
will now turn to what I feel is the relevant issue before the committee:
"What are the costs and benefits associated with the deregulation of prices
for the trunk airlines?" From an economic perspective, the following
arguments can be advanced:
1. Currently aTL price variations are subject to CAB approval. The
delay factor in seeking and getting approval for fare changes
inhibits rapid adaptation to changing demand patterns in the market.
In a "ftree" market no longer would this flexibility be retarded.
2. Fixing prices reduces competition and protects inefficiency.
Basically each airline firm faces three kinds of competition:
substitution effect - traveling via another mode of transportation,
price effect — traveling on another airline that flies more cheaply,
and differentiation effect - traveling on another airline because
it is more preferred for reasons other than price. When prices are
set, the first two components of competition are also fixed. Thus,
intra-industry competition has been substantially reduced. If the
set price is too low, firms will not make a profit and will elimin-
ate Eci-vice (get out of the market), which they can do, in general.
If the set price is "on the mark" no harm will have been done,
But, if the price is too high, the consumer is in effect subsidizing
the trunks with the Impiicit sanction of the government. Carriers
vrtiich norraaUy could not derive a profit can continue to exist on
this subsidy. Furthermore, by their very existence they raise the
cost of entry to the market. Thus, other firms, presently outside
of the market, might be able to fiy routes more economically, but
current market penetration by inefficient carriers prevents their
entrance into the market place.
435
- 5 -
3. Due to reduced price competition, the airline industry may tend
to overallocate expenditures in seversLL areas as advertising and
other non-price promotional categories.
k. There is no real Justification for setting prices. The airline
industry is not monopolistic, nor is it a public utility. Certainly,
minimum safety standards must be maintained; but allowing price
competition has no bearing on this issue.
I have argued from an economic perspective irtiy deregulation should be
undertaken. The gnawing question of what would then happen still remains.
Would prices remain fixed or go dovm? Would service decrease or increase?
No one has a crystal ball. The AIA looked at the problem only from the
service angle; I believe their excmination was faulty. According to its
Hiase 9 opinion in the Domestic Passenger Fare Investigation, the CAB
concludes that price setting results in an elimination of excess profits
via a supersatxaration of flights in the market (thus diminishing load factors
to the breakeven level) . If the trunk market were deregxolated, the following
fare-service situations coxild occur for a given city -pair:
1. No change in price because the regulated price accurately reflected
the free market clearing value. In that case the trunks would have
no incentive, to change their service (everything else remaining the
same).
2. Price of fares decrease because the public "subsidy" has been
eliminated. Indeed, service most likely would be curtailed some-
what, the amo\jnt depending on both the price and the service elas-
ticities of demand. The airlines would become more competitive
and efficient; their scheduling times would cater more to the
variations of customer demand. The profit picture of the trunks
WDXild not significantly change; in neither the pre- nor the post-
deregulation periods would they be making excess profits. In
fact, if anyone would be adversely affected, it would be the equip-
ment manufacturers. The public would be better off because their
fares would be reduced, and the airlines would be more rapidly
responsive to their changing demand patterns. The amount of the
drop in service, I feel, would not be significant. In any event,
436
-6 -
the wholesale cancellation of scheduled fli^ats would not occur for
reasons mentioned previously.
Since the simulation model has not provided definitive answers to the
questions posed by the connittee, the next task is to seek the appropriate
avenue of investigation. There ore basically the three approaches mentioned
by Dr. James in his letter:
1. Build a macroeconomic model. To construct such a model from
scratch in which one could place faith in its output would be a
most difficult task.
2. Build a simulation model that appropriately reflects the problem
at hand. To incorporate congjetition, service elasticity of demand,
and correct the misallocation of costs via the city-pair method
would be a formidable job.
3. Study the effects of non-regulation in price in some of the larger
states ~ say California and Texas. The market in these states
could then serve as a microcosm for a nationwide projection. In
partic\alar, I feel that a more thorough analysis of fare and service
rate changes should be made with regard to the entrance into the
market of Pacific Southwest Airlines (PSA) and Southwest Airlines
(WN).
'
437
Prepared Statement of George W. Douglas
I am grateful for the opportunity to come before you today to comment on the
regulation and performance of our airline industry. In the current inflationary
environment it is particularly appropriate that your committee undertake to
examine the operations and policies of the Civil Aeronautics Board. For while in
the early years of the industry the modus operandi and protective policies of the
Board ma.v have served a useful role, they are in large measure now outmoded
and now serve primarily to significantly increase the costs, energy usage, and
prices of air transportation. Certainly in an era of inflation, energy shortage, and
general financial stringency we can ill afford to perpetuate these costly and waste-
ful practices.
I should like to note at the outset that I do not attribute this state of affairs to
venality of the regulators : tliey have not structured or regulated the industry
so as to bestow excessive profits on the air carriers. Rather, the effect of the
traditional regulatory practices and policies of the CAB has been substantial in-
creases in the costs of the carriers and fares paid by the public for air travel.
While the regulatory policies which increase costs and prices are numerous, by
far the dominant aspect of waste is associated with the excessive level of empty
seats carried in the system. While the nature of the market requires that some
proportion of the seats on average be unfilled, the level which prevails is exces-
sive. I have calculated that from this source alone, the costs and fares of pas-
sengers in 1969 were in the range of $366 million to $538 million in excess of the
fares they would have paid in the absence of this waste. While I have not access
to current data which would enable me to completely reestimate these results for
1974. by extrapolation they would be on the order of $850 million. One can gain a
similar "real world" perspective of these costs by comparing the fares which
prevail in the intrastate markets of California and Texas and those of similar
interstate markets on the east coast. I have described these fares in table 1, and as
as you can see those in the CAB regulated interstate markets are from 29 percent
to 109 percent higher. I have also calculated in an earlier study the fares which
could prevail in other interstate markets, taking into account all tho.se factors
which would affect the level of eflScient costs, such as distance, market density,
aircraft t.vpe, service quality and convenience. These "optimal" fares and the
actual coach fares of 1972 are reported for several markets in table 2. While
some minor portion of the observed differences can be attributed to other sources
(i.e., weather and traffic delays, terminal costs and landing fees), the major rea-
son why the California and Texas carriers can operate profitably at such a con-
siderably lower fare is their significantly higher load factor (i.e., proportion of the
total seats filled). Since most of the costs in air transport are simply those of
flying the aircraft from terminal to terminal, clearly the average cost per pas-
senger is reduced by increasing the number of passengers per flight. There is ab-
solutely no reason why the invisible state boundaries over which the aircraft pass
on these and other interstate routes should change the nature of the airline mar-
kets so that these passengers should continue to pay these excessive fares.
TABLE I.-COMPARISON OF FARES IN SELECTED INTRASTATE AND INTERSTATE MARKETS (DECEMBER 1974)
City-pair market
Fare (cents
Distance Coach fare per mile)
Boston-Washington
San Diego-San Francisco '._
Chicago-Minneapolis
Los Angeles-San Francisco'
New York-Washington
Dallas-San Antonio'
Boston-New York
Washington-Philadelphia. . .
Los Angeles-San Diego ' . . -
413
$45. 00
10.90
449
29.00
6.46
344
42.00
12.21
355
20.75
5.84
228
2 29.00
3 12.72
253
^25.00
5 9. 88
186
26.00
13.98
133
24.00
18.05
101
10.75
10.64
' Intrastate markets not under CAB regulation.
- $25 off peak or night coach fare.
3 $10.96 off peak or night coach fare.
* $15 off peak or night coach fare.
^ $5.93 off peak or night coach fare.
180
$16.82
$24. 00
$20. 85
1.24
184
20.63
23.00
19.97
.97
256
18.67
28.00
24.23
1.30
675
32.29
55.00
46.63
1.44
1,092
44.65
83.00
69.95
1.57
1,627
64.99
113.00
93.05
1.43
2,453
86.88
163. 00
134.21
1.54
2 434
92.10
155. 00
127.63
1.39
438
TABLE 2.-ESTIMATES OF OPTIMAL AIR COACH FARES AND ACTUAL FARES, SELECTED MARKETS
[In 19711
Ratio of
Optimal Coach Adjusted adjusted yield
City-pair market Distance fare fare yield' to optimal fare
Baltimore-New York
Huntsville-Memphis
Chicago-St. Louis
Chicago-Philadelphia
New York-Miami
Denver-New York
Los Angeles-New York..
San Francisco-Washington
1 Adjusted for incidence of discount fares (see CAB docket 21866-9, exhibit BC-6006).
Source: George W. Douglas and James C. Miller, III, "Economic Regulation and Domestic Air Transport," The Brook-
ings Institution, Washington, 1974.
The ostrich-like attitude of the CAB in ipnoriug the lessons of tlae California
experience and in not seeking the manifest henefits which could he obtained for
the travelling public generally can only be regarded as scandalous. This attitude
of the Board was not based on ignorance ; as early as August 1965, a CAB staff
report carefully pointed out the fares, costs and profitability in the California
intrastate markets. (See S.L.R. Brown and Associates, "Traffic. Fares and Com-
petition/ Los Angeles-San Francisco Air Travel Corridor." Staff Research report
No. 4, Research and Statistics Division, Bureau of Accounts and Statistics,
August 1965).
To understand how these cost and fare differentials arise between the inter-
state routes under CAB regulation, and the intrastate routes, which are not, one
must look to the nature of the airline markets under CAB regulation. The prin-
cipal aspects of CAB regulation which have brought us the high cost-high fare
markets are those affecting price competition and entry. Effective price compe-
tition (where it in fact exists) in the unregulated industries serves an im-
portant role in both keeping prices in line with the lowest possible costs of pro-
duction of goods of a given quality, and in forcing producers to produce effi-
ciently. On examination of the history of CAB policy in this area, one can only
conclude that its principal thrust has been to discourage or suppress price com-
petition among the carriers. Carriers are discouraged from comi)eting with price
because fare changes must be filed with the Board, and are subject to challenge
by their rivals. Having observed a pattern of disapprovals, they understandably
seek other avenues of rivalry.
Complementing the discouragement of price competition is the Board's con-
sistent sheltering of the industry from competition by new firms. Upon the
establishment of the CAB in 1938, the existing carriers were given certificates
of public convenience and necessity accorded them by their "grandfather" rights.
While the CAB has allowed the entry of a new class of "local service" carriers,
it has not allowed the entry of a single new trunk carrier to compete in the
principal markets since 1938. CAB entry protection has been sufficient to enable
the grandfather carriers to retain about nine tenths of total domestic air service,
despite a 250-fold increase in total traffic since 193S. Since in unregulated indus-
try the absence of effective price competition and excessive prices brings about
new entrants, one can see the importance of the foreclosure of entry in discourag-
ing effective competition. While the Board has granted the entry of existing firms
Into formerly monopoly markets (i.e., between two cities) so that monopoly itself
is not a major problem, the fact that each firm faces the same rival in many
markets reduces the incidence of competition.
It should be pointed out, as well, that a monopoly is not required for the effi-
cient operation of air transportation. Unlike the generation and distribution of
electric power, for example, econometric studies of the airline industry's costs
are virtually unanimous in showing tlie lack of scale economies. That is, in the
former case, since electric power can be produced and distributed in a city at
less cost by one large firm than four smaller firms, it is in the public interest to
establish and regulate a monopoly. This is not the case in the airline industry.
While the airlines do not compete with prices, they do compete in other ways,
such as advertising and the provision of passenger services and amenities. This
form of competition is beneficial to the traveller, and can be most noticed in its
absence in those markets with only one carrier or whether there is no effective
439
competition for some other reason. But of far greater consequence in attracting
passengers is the frequency of flights. The carriers have discovered that the
surest way to increase their share of the market is to increase their flight
frequencies.
Thus, even though the fares in most CAB-reguIated markets are too high, this
does not mean that the carriers earn excessive profit. Rather, the result of the
nonprice comjjetition, i>articularly in .scheduling, is to increa.se the average cost
per pa.ssenger carried up to the level of the price. In economic terms, we would
describe this market as one in which the costs are determined by the price, rather
than the reverse, which Ls the usual ca.se. While along with the higher price, the
travelling public does benefit from the convenience of more frequent departures
(and a reduction of the chance that a seat is not available on the preferred
flight j, the additional costs are well out of proportion to any po.ssible value that
could be attributed to this convenience. In short, the reason why the costs in the
regulated indu-stry are high and the number of wasted .seats is large and the
amount of wasted fuel is high, is .simply that the CAB-regulated prices have been
too high. They are particularly .so in the long distance routes and in the densely,
heavily travelled route.s.
By contrast, the regtilatory restraints imposed by the state commissions of
Texas and California have not had the .same effect. The intrastate c-arriers have
found that they can effectively comijete with a fair profit by offering .services at
a considerably lower price, doing so becau.se they have found ways to reduce
.some operating costs, but more importantly, by adjusting schedules "so that they
fly fewer empty .seats. With commensurately lower fares in interstate routes, the
CAB-regulated carriers would be forced to do the .same.
Since the relatively high-fare high-cost equilibrium which obtains in the inter-
state markets have not provided the economical services the public deserves, nor
provided the carriers an exceptional profit, why does such a condition exist?
My own interj^retation of the regulatory hLstory is that the CAB has failed to
understand adwjuately the basic economic forces in the industry and the changes
which have occurred which should have altered its fundamental policies.
The legislative "Declaration of Policy" in the Federal aviation acts by which
the CAB operates admonishes the CAB to "promote" the industry as well as reg-
ulate it. In its formative years as an "infant" industry it was the belief of Con-
gress that its development was in the national interest, and the industry was for
many years encouraged in its growth by direct sub.sidy. In addition to direct
subsidy the CAB attempted to further promote and expand the industry by in-
ternal cross subsidy. That is. the carriers would be required to fly a number of
routes that could not cover costs. To compen.sate the carriers for the.se losses the
carriers were allowed to earn exce.ss profits in the viable markets. To shelter
these profits required the competitive restraints described above : barriers to new
competition and discouragement of price competition. While the.se arrangements
for cross subsidy even in the indastry's formative years can be criticized on eco-
nomic grounds, they nonethele.ss had some logic given the stated goals of extend-
ing air tran.sport .services as rapidly and extensively as rx».ssible.
The industry has grown and prospered, and is now the dominant commercial
mode of intercity traveL The trunklines grew out of their needs for direct sub-
sidy in the fifties, and the role of expanding .services in small markets was as-
sumed by the local .service carriers. Just as the trunk carriers have outgrown
their need for direct subsidy, they have al.so outgrown the need for internal cross-
sub.sidy. Reflecting thLs in some extent is the Boards action in the last 10 years
or so of increasing the number of carriers in each viable market. However, the
traditions of .sheltering and protection from competition developed in the indus-
try's early years have persisted, although the need for them has pas.sed. In the
milieu of nonprice competition, the fare levels which would have once generated
the excess profits in the "lucrative'" markets, are dissipated in higher costs to the
benefit of no one.
Lest I Ije misinterpreted as suggesting that the CAB expand its regulation to
include the restraint of .scheduling competition, let me declare directly that such
a move is unneces.sary and undesirable. Were the CAB to take a policy which
would encourage more effective price competition, the price level would fall and
with it the level of exce.ss capacity offered. Currently pending before the Board
IS an important ca.se in this regard, in which the Board must consider the d-^-sir-
abiUty of mutual agreements by the carriers to restrain capacity. This would in
effect, perfect the cartel, and if not coupled with fare reduction.s ( which are not
propo.sed; would generate excessive profits in tho.se markets. Travellers in those
markets would be paying for a level of .service which would be denied them bv
anticompetitive agreement.
440
The tradition of attempted cross-subsidy and the Board's apparent aversion
of efficient low-cost air travel is nowhere more apparent than in the interna-
ti(mal markets. The CAB, while not unilaterally regulating these markets,
has a contributing role which has seldom advanced the consumers' interest. In
this case, the CAB sets rules which shelter the international cartel (The Inter-
national Air Transport Association) from effective price competition. The plainly
excessive lATA fares are sheltered by CAB policies which restrain air charters
with affinity rules, and now with minimum fare floors. Moreover, the occasional
proposals for entry of a new carrier promising efficient, low-cost service are re-
jected even though there is no credible evidence that the service would be
predatory (i.e., below cost).
The tradition of cross subsidy is so engrained with the regulator and the in-
cumbent carriers (one can predict its stout defense by the Air Transport As-
sociation), that even a statement of policy contrary to the same by the Board
in the Domestic Passenger Fare Investigation has had imperceptible results in
actual policy. Let me state some frequent criticisms by economists of the practice :
1) If the policy is effective (generating profits in some markets which
subsidize losses in others), there is a net loss of benefits; the additional
benefits received by those consuming the subsidized good or service are less
than the additional costs borne by those in the market providing the
subsidy ;
2) There is no presumption that the implicit transfer of benefits is equit-
able. Particularly it should not be assumed that the traveller in the
"large" market (e.g. the grandmother flying from New York to Los Angeles)
has a higher income than the traveller in the "small" market (e.g. the
businessman flying from Cedar Rapids to Chicago) .
3) The cross-subsidy mechanism is seldom effective. As in the airline
industry, to provide one dollar extra profit in one market may require that
the consumers pay five or more dollars in additional fares.
4) The amount and value of the subsidy is invisible, and not subject
to regular review by the agency or the Congress. Hence, the level of sub-
sidized services tends to grow well beyond that intended. A corollary is
that the nonremunerative services provide an attractive legislative pork
barrel whose costs are not revealed.
I should like to take this opportunity to speculate on the various methods of
reform that might influence tlie CAB to lie more responsive to the needs of
the public in developing an efficient air transport system. As is evident from my
statement today. I feel that current Board i>olicy is misfUrected (or at best,
without direction). To this I might offer some personal observations.
First, upon initiating my studies of the airline industry in 15)68. I was sup-
posed to find that the CAB. whose mission is the economic regulation of the
industry, had so few professional economists on its staff. The rare exception
of a very capable economist of whom I am aware, appears to be an embarrass-
ment to be ignored. By the same token, the membership of the Board has never
included an economist, and to my knowledge and observation, the economic
training and perception of the administrative law judges would appear most
rudimentary. I am not suggesting that economic expertise would ensure con-
sistently good decisions, or insulate a member of the Board, for example, from
the pressures he faces, but one cannot help but believe that there would be
fewer policies which aid no one/or are futile.
Second, the experience of the permissive regulation in California and Texas
suggests that some substantial, phased movement toward deregulation should
occur. I say this from a background of pragmatism, rather than from a doctrin-
aire "free market"' philosophy. (I am a Ph. D. from Yale, not Chicago.) In fact,
one of the remarkable things about the study of regulation of transportation is
the consensxis of almost all economists, "liberal" and "conservative." that it has
in large measure failed its intended purpose or is currently obsolescent, and is
desired only by the industries regulated.
Recognizing tlie improbability of a phased deregulation of the industry, I
would like to offer some proposals that would cau!<e airline regulation to be more
efficient and resjionsive to tlie public. These proposals were made by James C.
Miller III and me in our recent study of the industry for the Brookings Insti-
tution.^ and are taken directly from that study :
1 Goorffe W. Doufilas and James C. Miller III. Economic Rojrulation of Domestic .Vir
Transport : Theory and Policy, Brookings. Washington. 1974.
441
KEFORMS UNDER EXISTING LEGISLATION
Under the Federal Aviation Act the Board has considerable latitude in framing
regulatory policy. We shall here describe a number of recommendations which
are possible under the existing statute. First, a set of possible actions that
should not be attempted.
1. Do n/it attempt to regulate return on investment. — As described in chapter 4,
carriers will employ nonprice competition to a point where the anticipated return
on additional investment is equal to the carriers' own internal required rate of
return. Board attempts to regulate this return precisely as a predetermined
reasonable rate will prove fruitless and will lead the market equilibrium away
from the efficient combination (see figure 4-2).
2. Do not approve eapacitij agreements. — As described previously, the long-
range effect of capacity agreements is carrier inefficiency in matching capacity
with demand. Another result is excess profits in capacity-controlled markets, pro-
vided fares are not adjusted downward accordingly, which represent an alloca-
tive efficiency cost.
3. Do not approve fuel reduction and rescheduling agreements. — Restrictions on
fuel supplies to airline firms obviously limit the amount of capacity they can
offer. Competition among firms in planning schedules leads generally to an effi-
cient ovei-i^ll network, that is, capacity offerings responsive to passenger demand.
Not only are rescheduling agreements not needed, but they lead to inefficiencies
and create excess industry profits.
4. Do not limit entry to protect incumbent carriers. — As described in chapter
7, entry controls insulate existing carriers from competition. If a prospective
entrant appears likely to succeed in the market to the detriment of an incumber
carrier, then this may be an indication that the new carrier is more efficient. Pro-
tests from incumbent carriers are to be exi)ected, but to give them great weight
is to encourage technical inefficiency.
5. Do not suspend or find unlawful fare decreases on grounds of protecting
competitive carriers. — Understandably, whenever one carrier proposes to reduce
a fare its competitors will object, preferring instead the existing fare level. Re-
fusing to approve such an initiative protects less efficient carriers and con-
strains differentiation in price-quality options.
6. Do not limit exit from service. — If a carrier wishes to suspend or abandon
a market, its decision is an indication that the social value derived from the
service is less than the cost of providing it. To constrain exit is inefficient. (How-
ever, the Board should be liberal in certificating a new carrier in any abandoned
market. )
7. Do not regulate commuter carriers. — Continuing the exemption for com-
muter carriers is a good way of testing the efficiency of trunk- and local-service
carrier service. That is, if a commuter carrier can provide service under regu-
lator-imposed cost disadvantages, then this is a market test of the inefficiency of
trunkliue and local service carrier provision.
8. Do not further restrict (charter) operations of the supplemental carriers. —
The supplemental carriers provide a vital function in competing with the sched-
uled carriers. Not only do they provide benchmarks of technical efficiency, but
they reveal the need for lower price-quality options in scheduled service. With-
out the supplementals the inefficiencies of trunk service would be partially
masked.
FEASIBLE PROPOSALS OF AN AFFIRiIATI\-E NATURE
1. Detemune and bring about the optimum level and structure of fare-quality
options. — Hold a specific hearing in which the trade-off between fare level and
quality is brought under close scrutiny and a determination is made concerning
the optimal level and structure of fares and quality. At the same time, explore
the feasibility of increasing the number of price-quality options.
2. Hold general investigations regarding policies toward entry, exit, mergers,
and collusion. — At present, all of these matters are treated on an ad hoc basis.
An investigation which looked at the.se issues in the same depth as the Domestic
Passenger Fare Investigation looked at fares would be appropriate and presum-
ably would lead to the identification of more si>ecific, efficiency-inducing policies.
3. Encourage price competition and market tests of p7-ice-quality options. —
Conclude that under .section 1002(d) of the PYderal Aviation Act a zone of reason-
ableness for fares is in the public interest. Such a zone might work either in
terms of per se reasonableness (meaning lawful on grounds of reasonableness
whatever the ca.se), or prima facie reasonableness (that is, presumed to be law-
ful on grounds of reasonableness unless proven otherwise). This might also be
442
coupled with a stated policy of giving less weight to questions of alleged discrim-
ination, preference, or prejudice. The zone might also allow for broad variations
in price-quality options, thereby giving market tests of the preferred combinations.
4. Reform the decisionmaking process.— It would enhance economic eflSciency
if in the adversary process more emphasis were placed on substance and less on
form. Also, it would improve the quality of decisions if more economics expertise
were required of administrative law judges and Board oppointees. Finally, in
view of the tendency of the Board to minimize squawk, public or private interest
advocates with economic efficiency positions should be encouraged to present
their case.
While the above reforms do not exhaust the possibilities feasible under exist-
ing legislation, they include some of the more important ones, and, if adopted,
would go far toward increasing the efficiency of airline markets.
KEFORMS REQUIRING ADDITIONAL LEGISLATION
Even more substantive reforms are possible with new legislation. Essentially,
initial legislation setting up a regulatory agency specifies broad objectives for
regulation and grants powers to the regulator which ultimately take the form
of constraints on industry behavior. Reform legislation typically can take one
or more of three directions. First, it might change or identify more clearly
regulatory objectives ; second, it might specify particular restraints on the in-
dustry, thus telling the Board more clearly what to do ; or third, it might prohibit
certain previously imposed restraints, thus telling the Board what not to do. The
reforms described below contain aspects of all three.
1. Redefine public interest to mean economic efficiency. — As described in the
appendix, the legislative "Declaration of Policy," which essentially defines the
term "public interest" as used in the statute, is ambiguous and contains mutually
conflicting goals, some of which are inconsistent with economic efficiency. A
simple legislative change which would have an important effort is replacing the
Declaration of Policy with a policy statement admonishing the Board to foster
efficiency in airline markets.
2. Separate promotion activities from economic regulation. — As described
above, the Board has attempted to promote air transportation and this has re-
sulted in efficiency losses. If there are public-good aspects of the industry which
require its artificial promotion, then this is better accomplished through other
means. For example, as the Ash Council has recommended, transfer the promo-
tional activities of the Board to the Department of Transportation. Also, promo-
tion, if it is to exist, should be designed to augment efficiency in the provision of
the subsidized service. An example is the competitive bidding scheme proposed by
the Board to assure service at low-density points.
3. Alter burden of proof. — Change the Federal Aviation Act to make entry
and exit merely consistent with the public interest, rather than required by it.
Make the approval of collusive agreements required by the public interest, instead
of being "not inconsistent with the public interest." These changes arguably would
make entry and exit freer and would restrain Board sanctioned collusion.
4. Expand regulatory exemptions. — Broaden the class of exempt carriers which
may provide schedule^l air service. This could be at^complished in a number of
ways. First, grant commuter carriers an explicit exemption and liberalized
standards of aircraft size. Second, allow existing charter carriers to engage in
single-ticketed scheduled service. Third, totally dereguljite the denser city-pair
markets. The instances of inefficiency under complete deregulation are likely
to be minimized the larger the market size; also, the greatest efficiency gains
from deregulation are likely to be found in such markets.
5. Withdraw or modify CAB power to approve intcrcarrier agreements. —
Revise section 412 of the Federal Aviation Act to eliminate tlie power of the
Board to circumvent Iho antitrust laws and approve and enforce cartel agree-
ments. With possibly few exceptions, agreements coming imder this provision for
the purpose of escaping antitrust liability are inconsistent with maximizing
industry performance.
In both explaining regulatory behavior and in assessing the probability of
reform, discussions of economists usually touch a common theme : that the firms
being regulated, being few in number and having such a large, perceived stake
in the legislation and policies of regulation carry an overwhelming influence when
compared with the consumers, wliose numbers are immense but whose burdens
are ill perceived and spread thinly. It is my hope that the hearings of this com-
mittee may in some measure redress this bias. Thank you.
COMPARISON OF UNREGULATED INTRASTATE AIR-
LINES WITH REGULATED INTERSTATE AIRLINES
FRIDAY, FEBRUARY 14, 1975
U.S. Senate,
Subcommittee on Administrate:
Practice and Procedure of the
Committee on the Judiciary,
Boston., Mass.
The subcommittee met, pursuant to notice, at 9:45 a.m., in room
2003A, JFK Federal Building, Senator Edward ^L Kennedy, chair-
man of the subcommittee, presiding.
Present : Senator Kennedy.
Also present : Stephen Breyer, special counsel ; Philip Bakes, as-
sistant counsel; Thomas M. Susman, chief counsel; and Stephen L.
Jones, minority counsel.
Senator Kennedy. The subcommittee will come to order.
OPENING STATEMENT OF SENATOR KENNEDY
The Subcommittee on Administrative Practice and Procedure is to-
day continuing its hearings on Federal regulation of the airlines and
its effects on air transportation. The subcommittee began these hearings
in Washington last week, with representatives from various Govern-
ment agencies and independent economists arguing that Federal
regulation of airlines by the Civil Aeronautics Board is costly and in-
efficient. As one witness pointed out, while the traveler may be pleased
to find the seat next to him empty so he can stretch out, he might not be
as comfortable if he knew that he was paying for that empty seat.
The airline passenger these days can get free drinks on coach or a
piano bar in the lounge. He can fly a "yellowbird'' or other designer-
colored airplanes, and can choose menus and movies. He can "fly Carol
to Miami" or content himself in someone else's "friendly skies." JBut one
thing he cannot do is fly cheaply. He may choose between airlines, but
he cannot choose between air fares. A lot of people believe that the
Federal Government is responsible. And they may be right.
The Civil Aeronautics Board regulates air fares. These have been
skyrocketing in recent years and continue upward. Some economists
have estimated that air fares presently average 32— iT percent, and in
some cases 100 percent, higher than they would be without CAB
regulation.
For Boston residents, that could mean flights to Xew York for $15
instead of $28, to Washington for $21 instead of $45, and to Los Angeles
for $90 instead of $188.
The CAB also regulates the entry of new airlines into the market-
place. But the CAB often delays action on requests by existing carriers
to serve new routes. And it generally discourages or refuses to act on
applications by new airlines to begin new service. As a result, not one
new trunk airline has started operation since 1938, while the number
of major carriers has actually decreased because of mergers.
(443)
444
The people of Massachusetts know this. Northeast Airlines merged
with. Delta 3 years ago. Service has been cut back to many areas of
the State. We are especially fortunate, however, to be in one of the
few areas of the country receiving new service, from Air New Eng-
land. In the current climate of Federal regulation, though, the future
holds no special promise for a bright young innovative competitor in
the airline business. For competition seems to be a word missing from
the CAB's dictionary.
We will also ask the regulated airlines who fly the Northeast
whether they have considered this question — whether they could pro-
vide the kind of low-price service that PSA and other State airlines
provide in other parts of the country.
This subcommittee began its investigation of the CAB as a first
step in the regulatory reform process. I was pleased to see that in our
hearings last week, the administration responded to our efforts, and
has promised to develop and support a legislative reform package. We
will continue these efforts in future hearings.
The difference between low air fares and high air fares should not
be the difference between the absence and presence of Federal regula-
tion. If it is, then we must be prepared to overhaul regulation and
make it more responsive to the citizens it is intended to serve.
Our first witnesses this morning will be Kobert W. Clifford and
Lawrence Guske.
Mr. Clifford has spent over 25 years of his career experience in
airline management, and he is now president of Air California.
Mr. Lawrence Guske, is assistant controller of Pacific Southwest
Airlines and has appeared as witness for Pacific Southwest Airlines
in several hearings before the California Public Utilities Commission.
STATEMENTS OF LAWRENCE A. GUSKE, ASSISTANT CONTROLLER,
PACIFIC SOUTHWEST AIRLINES, AND ROBERT W. CLIFFORD,
PRESIDENT, AIR CALIFORNIA
IMr. Guske. Would you like for me to read my statement?
Senator Kennedy. No, maybe just highlight it in 2 or 3 minutes, if
you could do that for us.
Mr. Guske. Essentially some background on PSA, we serve only
in the State of California. We serve the Stat« with jet aircraft. We
carry approximately 6.4 million passengers a year. Our current fares
in our primary markets average approximately 5.68 cents per revenue
passenger-mile. AVe have currently pending before the Public Utilities
Commission, by which we are regulated as to fares and markets, an
increase which would bring those primary market fares up to approxi-
mately 6.3 cents per mile. We currently serve 32 city-pairs in the State
of California.
I think that summarizes who PSA is and the type of service we
provide.
psa's "no-frills" service
Senator Kennedy. I have had a chance to review the rates that are
charged by PSA and allowed by the CAB. Why do you think you
are able to charge a good deal less than regulated air service carriers ?
445
Mr. GusKE. Actually, in the State of California, the CAB carriers
that compete with us have the same fares that we do. But as far as
going to the point of fares, in and of themselves, I think it can be
attributed to several factors. We try to keep our overhead as low as
we possibly can. The type of service we offer is no-frills type service.
Senator Kennedy. What do you mean by "no frills?"
]Mr. GusKE. We do not have food service.
Senator Kennedy. Do people not demand that?
Mr. GusKE. No, our flights are generally very short, approximately
an hour.
Senator Kennedy. Sort of like New York to Washington ?
Mr. GusKE. I think it would be somewhat similar. I am not familiar
with that market.
We have no free alcoholic beverages. We have high-density seating
on our aircraft, and we have a general policy of no discounting of
our fares. We do not have military fares or excureion fares and such
like that. The only discount fares are for children under the age of
12, and that is it.
I think that factor, and then our ability to generate passengers with
a friendly type of service, which is, the more passengers, the more
you can hold down your costs to the extent of being able to spread
them over more passengers and so on.
Senator Kennedy. Do you think it is completely coincidental, that
even the certified carriers operating in competition with you in the
intrastate market, charge about close to half of what the CAB formula
is and just about what yours is? They do that in California and in
Texas, hut they do not do it in other parts of the countrv. Why do you
think they do that ?
Mr. GusKE. I really could not speculate on other parts of the coun-
try. As far as the State of California is concerned, the fares are regu-
lated by the Public Utilities Commission and at this point they have
designated PSA as the most efficient fare setting carrier in the State,
and that has been their policy that whatever fares they authorize for
PSA they will also grant to CAB carriers. Since they do regulate the
fares, that has a controlling interest to an extent.
Senator Kennedy. Do you think competition has anything to do
with these lower fares?
Mr. GusKE. Again, I cannot speak for those carriers, but I think
that would be a definite consideration of theirs in trying to meet
competition.
Senator Kennedy. AVhat you are saying then is that you provide
more seats in the plane and no food or beverages. Besides the courteous
services that you extend, you are able to charge less for the miles that
will be carried, and that this concept or idea has been endorsed by the
people traveling your airline.
Mr. GusKE. Yes, sir.
possible EXPANSION BY PSA OUTSIDE CALIFORNIA
Senator Kennedy. Would you like to fly outside of California ?
Mr. GusKE. Yes, we would. We currentlv have pretty much been
serving the major markets in California. There is not much left for
us to expand into. As far as our future goes, we would be very inter-
ested in flying outside the State.
446
Senator Kennedy. Why do you not ?
Mr. GusKE. We have no application on file currently with the Civil
Aeronautics Board, which may have jurisdiction in that matter, and
we are not certificated bv the Civil Aeronautics Board at this point.
Senator Kennedy. If you would like to fly outside California, what
are the reasons you are not making application to do so ?
Mr. GusKE. Well, we have not completed the necessary studies and
so forth, which would be a prerequisite to filing applications or seeking
additional routes.
Senator Kennedy. Has there ever been a cost study done in an effort
to find out why you provide services more cheaply thrai we do in the
East?
INIr. Guske. Not that I am aware of.
Senator Kennedy. You are not familiar with the CAB study of
1966?
Mr. Guske. I am not.
Senator Kennedy. Do you think customers prefer the no-frills serv-
ice you provide for short flights more than the C AB-type of service ?
Mr. Guske. Well, all I can say is that our passengers appear to
accept our services and they come back, and we have shown over the
years considerable growth "in our passenger total, so we believe our
service is very well accepted.
AIR CALIFORNIA
Senator Kennedy. Mr. Clifford could you tell us a little about the
situation in California ?
INIr. Clifford. Senator, our situation is slightly different from
PSA's. Ours is a California carrier, and have grown extremely fast.
We carried 1.4 million customers in 1974. We have been in business
since 1967.
Our primary entry into the business was not in a competitive nature
rather than new services that our people felt were necessary in survey-
ing the markets Avithin California.
So our fares are slightly higher than PSA's. Our average fare is 6.4
cents a mile. Twelve of our 19 markets are in fact noncompetitive in
nature, if you will, having started from markets that were not previ-
ously served.
We compete in five markets, and the fares that we cliarge are com-
parable to the other scheduled carriers in those markets, primarily,
because the Public Utilities Commission grants fares throughout the
State of California on all intrastate routes.
Senator Kennedy. What do you charge to fly from Orange County
to San Francisco, or San Diego to Oakland ?
]Mr. Clifford. $24.30, Senator.
Senator Kennedy. And the flight from Boston to Washington is just
about as far, is it not ?
Mr. Clifford. I am not sure.
Senator Kennedy. How many miles is it ?
Mr. Clifford. From Orange County to San Francisco it is 344 miles.
CX)NTRAST between AIR CALIFORNIA'S FARES AND CAB FARES
Senator Kennedy. Boston to Washington is 399, and it costs almost
twice as much. How can you fly more cheaply ?
447
j\Ir. Clifford. Well. I believe there are three basic reasons why Air
California flies more cheaply. One, Ave are blessed in California with
some weather circumstances and conditions that favor us, and having
been an east coast operator, I am aware of the weather problems that
are involved and would require higher fares.
We are a younger airline, and our employees — although we pay
standard rates, if you will
Senator Kennedy. Do you know that the Boston-Washington route
completes 98.2 perceiit of their flights ?
Mr. Clifford. We complete 99.8.
Senator Kennedy. Is there much difference between 98.2 and 99.8
percent in terms of real cost savings ?
Mr. Clifford. I would not have a judgment, Senator. We fly higher
load factors. Our break-even load factor is at this point 65 percent. So
we gear our fares for what we believe we can attain in load factor, and
have been successful in that degree.
Senator Kennedy. In other words, you feel that by charging the
loAver prices, you can get more people on a flight and make a profit on
that basis ?
Mr. Clifford. Yes, sir.
Senator Kennp:dy. Has that been your experience ?
INIr. Clifford. Yes, sir, we try to gage our prices to a break-even
load factor that is, in fact, attainable.
Senator Kennedy What type of planes does PSA fly ?
Mr. Clifford. Boeing 737's.
Senator Kennedy. How many seats do you have in the plane ?
Mr. Clifford. We have the same number of seats as the Hawaiian
carriers. I believe more seats than the 737 domestic operators.
Senator Kennedy. Do you think you could provide the same sort of
inexpensive service outside of California ?
Mr. Clifford. Yes, sir.
Senator Kennedy. Would you like to do so ?
Mr. Clifford. Yes, sir.
We have no current applications. We were applicants in the Pacific-
Xorthwest case some years ago. That has been our only entry into
trying to fly interstate.
Senator Kennedy. What happened in that case ?
Mr. Clifford. We were not a successful applicant.
Senator Kennedy. Do you know why ?
Mr. Clifford. Not precisely, but t4iere Avere public hearings, and the
discussions AA'ere made Avithout us being successful.
Senator Kennedy. If you Avould like to serA'e other places, Avhat
i-eally stops you ?
Mr. Clifford. An analysis on our part as to the potential success of
application and ability to serve in a precise market.
Senator Kennedy. \Vould you elaborate a little on that?
Mr. Clifford. Well, prior to application into any ncAV market Ave
AA-ould do an analysis Avith the competiti\'e services that were then
uA-ailable and Ave Avould apply only if, in our judgment, AA-e saw a real
need and requirenient for additional services Avithin the route.
We do not consider ourseh-es a cutrate airline, and it Avould not be
our policy and philosophy to look at a route and try to steal passengers,
if you Avill, from another carrier, but rather Ave AAOuld app>ly for the
448
route, if in our judgment, additional customers were potentially avail-
able in that route.
Senator Kennedy. I understand that the CAB says that the Cali-
fornia routes are cheaper because one of the reasons is they are denser,
and they have more passengers. There are about 2 million passengers
flying between Boston and Washington each year, one way. How many
passengers fly between Orange County and San Francisco ?
Mr. Clifford. I believe a million — I think I have a figure— Orange
County to San Francisco is 321,000 customers in 1973. Orange County
to San Jose were 276,000, approximately. Orange County
Senator Kennedy. At least with regards to the issue of the denser
being cheapei', the Boston-Washington route carrying 2 million versus
Orange County to San Francisco or San Jose with approximately
300.000, that does not seem to be a substantial issue.
Likewise, the 98.2 percent versus 99.8 percent flight completions
seems to be a very narrow variable. What are the other considerations ?
Mr. Clifford. Senator, I am not sure whether the completion factor
really tells the whole story on the weather as a factor. There are delays
enroute because of dense traffic, and long holds, and so on, that cer-
tainly would be a cost factor in this regard.
I am not sure what services are offered in the eai-n sector with regard
to food service and so on.
CAB denial of authority FOR INTRASTATE CARRIERS TO
INTERLINE WITH CAB CARRIERS
Senator Kennedy. If you want to fly from Boston to San Francisco
to Orange County, could you buy a ticket in Boston to do that ?
Mr. Clifford. No, sir; you cannot. We would like to interline bag-
gage and interline passengers for truly intrastate operations on a break
of your trip, if you will, if you were planning on spending li/^ days in
San Francisco, and traveling to Orange County. We have applied for
such services and ai-e not able to oft'er that.
Senator Kennedy. Why have you not been able to get it ?
Mr. Clifford. Well, there is the question of inter-- versus intra-state
carriage, common carriage of customers.
Senator Kennedy. Well, what happened to the applications?
Mr. Clifford. The application was denied.
Senator Kennedy. By whom ?
Mr. Clifford. By the Civil Aeronautics Board.
Senator Kennedy. For what reasons?
Mr. Clifford. I am really not familiar witli that portion of the case,
Senator.
Senator Kennedy. You mentioned a little earlier that you would
not want to enter a market at a cutrate to get passengers who already
fly on another line. Is this the usual businessman's attitude toward
competition ?
Mr. Clifford. Xo, but it is a very straightforward attitude of
making sure thei-e is enough market to make the load factor that is
necessary in order to flv, a practical, attainable load factor.
Senator Kennedy. What would happen otherwise ?
Ml-. Clifford. Well, if we needed 65 percent to break even, and we
got 55 percent we would lose, and we liave no place to go except as a
lost venture. Of course, we want to avoid that prospect.
449
Senator Kexxedy. But then yon wonld not be reluctant to enter this
market if you thought you could maintain a 65 percent load factor?
Mr. Clifp^ord. No, sir.
Senator Kennedy. Would you enter it at the cutrate ?
Mr. Clifford. Yes, sir.
Senator Kennedy. Thank you very much. I appreciate your coming.
Mr. Clifford. Thank you.
[The prepared statements of Lawrence Guske and Kobert Cliflford
follow :]
Prepared Statement of Lawrence A. Guske, Assistant Controller,
Pacific Southwest Airlines
We understand the focus of today's session to be on costs and fares in rela-
tively short-haul, dense airline passenger markets. We hope that PSA's par-
ticipation will assist the subcommittee in pursuing its interest in this important
area.
PSA commenced scheduled airline service on May 6, 1949, between San Diego
and Oakland via Hollywood-Burbank, utilizing one leased DC-3 aircraft. At
present, PSA provides single-plane service in 32 airport pairs using three Boeing
737-200 aircraft with 11.5 seat«, twenty Boeing 727-200 aircraft with 159 seats,
one Boeing 727-100 with 128 seats and two Lockheed 1011 aircraft with 297
seats.
In expanding and developing from 1949 to the present, PSA has consistently
sought to provide good air transportation service at the lowest possible fares.
PSA believes that the air passenger market is price elastic. In addition to
pioneering in the area of fares, PSA has concentrated much attention on develop-
ment of traffic at the California satellite airports of Burbank, Oakland, San
Jose, Ontario and Long Beach. Without the satellite operations, airport limita-
tions and congestion would have posed serious constraints to the expansion of
PSA's low fare service for the traveling public.
While we know that low fares increase traffic, PSA has not been able to
isolate and relate particular traffic increases to particular fare offerings. Ex-
amples of market stimulation which can be attributed in part to PSA's lower
fares are as follows :
1. In 1965, Pacific Airlines, the only carrier providing single-plane service
between Los Angeles and San Jose, carried 56,000 pasengers in that market.
In May 1966, PSA commenced lower-fare service between Los Angeles and
San Jose and for calendar year 1967, PSA carried 556,919 passengers for
a two-year increase of nearly 1,000 iiercent.
2. In 196(), only Western and United provided jet service between Los
Angeles and Sacramento. In February 1967, PSA entered the market with
a fare level approximately 25 percent below the existing fares. In 1967,
passenger traffic over the route doubled, and Western and United actually
carried more passengers than in 1966, despite the competition from PSA.
PSA has historically exercised tight, austere controls over its costs. Four
important areas where this has been done are :
1. Overhead. PSA employs tight expense controls and efficient flight and
ground crew practices. It has only five top corporate officers.
2. Basic transportation service. PSA serves no food or free alcoholic
beverages.
3. High seating density. PSA's single-class configurations of the aircraft
it operates are about 20 percent denser than those of interstate airlines.
4. No discounts. PSA has offered half -fa re for children 2 to 12, but almost
no other discounts. As a result, PSA's system fare dilution is only 2 percent.
Tight cost control is still effective, we believe, to keep PSA's total costs below
•those of other carriers on a passenger-mile basis, but PSA's costs are rising, in
common with those of the entire airline industry, at an alarming rate. PSA's
fuel costs are among the highest in the nation. From 14.4 cents per gallon at
the end of 1973. PSA's average price for a gallon of fuel soared to 31.2 cents as
of November 1974, and we anticipate a cost of 46 cents by the end of 1975 under
the Administration's crude oil program. At such a level, 1975 fuel costs would
amount to $47 million or 29.4 percent of PSA's total costs of airline operation,
compared with $14,396,000 and 14 percent of expenses in 1973. Although fuel
450
prices are the leading factor in PSA's cost increases, PSA is also subject to the
same inflationary pressures that afflict the entire nation over the entire range
of its costs.
PSA is subject to competition by interstate carriers over most of its system.
PSA's primary competitor, United, has consistently matched PSA's fares. Until
very recently, most other competing airlines published fares equal to PSA
over route segments served in common. In past route and fare proceedings before
the California Public Utilities Commission, these competing airlines have intro-
duced evidence which indicated that they were incurring substantial losses charg-
ing PSA's fares for their intra-Calif ornia services.
PSA's services have over the years yielded a profit, but a return on investment
of only 1.06 percent for 1973 — an inadequate return even under California PUC
ratemaking standards. Substandard profitability for PSA along with losses for
all competing carriers are, unfortunately, consistent with the California PUC's
ratemaking approach. The California PUC has declared PSA to be the rate-
making carrier in the principal California intrastate air transportation markets,
on the ground that PSA is most efficient. As a result, once rate increases are
granted to PSA after a full hearing, such increases are perfunctorily awarded
to the other air carriers on request, on the basis of PSA's relatively low-unit
costs rather than market or industry costs or the particular other carrier's costs.
The California PUC has used a number of other ratemaking techniques which
we at PSA have opposed as unsound and as calculated to prevent PSA, in spite
of its austere cost management and high eflSciency, from earning a fair return
on investment. As a result of such nearsighted ratemaking techniques, PSA's
public shareholders have received no cash dividends from 1970 to present.
PSA's present fare between Los Angeles and San Francisco before tax is $19.21,
or 5.68 cents per mile. We have pending with the California PUC a request for
increase to cover general cost increases, not fuel, which would increase the fare
to $21.30, or 6.30 cents per mile.
The fact that we are asking the PUC for a fare of 6.30 cents per mile does not
mean that PSA has stopped being a low-fare carrier. We still are dedicated to the
lowest compensatory fares. While we are asking for 0.30 cents, the Eastern air-
shuttle fares between New York, on the one hand, and Boston and Washington
on the other, are 14.02 cents and 12.98 cents per mile respectively, and the lowest
regular Boston-Washington fare is 10.44 cents per mile.
The most recent development in the California intrastate fare arena is that
several interstate carriers now offer lower fares than PSA in principal markets.
This came about in 1974, when PSA was forced to raise fares on all its routes to
compensate for the increased price of jet fuel. Although in the past, the interstate
carriers have normally raised their intra-California fares to match those of PSA,
some carriers did not do so in this instance. As a result. Delta offers the lowest
fare between Los Angeles and San Diego ; Hughes Airwest the lowest between
Los Angeles and San Francisco, and Continental is offering a lower fare between
Burbank and San Jose.
PSA continues as a proponent of low airline fares. Today, however, PSA is
faced with an unprecedented onslaught of deterrents to continuation and expan-
sion of the availability to the public of such fares. Rampant inflation led by fuel
prices unimaginable two years ago, a slumping economy, an inadequately re-
sponsive state regulatory agency, and competitors who for the first time are
using fares as an offensive weai)on against PSA, have all converged to challenge
the continuation of PSA's traditional role as the low fare, intrastate airline.
The.se are matters PSA feels should be kept in mind both in comparing intra-
California airline markets and fares with markets and fares elsewhere in the
country, and in devi.sing solutions to the administrative problems faced by the
carriers and the traveling public.
Prepared Statement of Robert W. Clifford, President, Air California
My name is Robert W. Clifford. I am the president of Air California, and we are
pleased to appear before you. Air California is a scheduled air carrier operating
within the State of California under a certificate of convenience and necessity
issued by the Public Utilities Commission, the agency which regulates the public
utilities and transportation services within Calf ornia. We provide passenger and
airfreight services to eight California cities constituting 19 city-pair markets.
Air California was incorporated in 1966 to provide initial air .service between
Orange County and the San Francisco bay area. The company has grown from
451
an airline operating two Lockheed Electras (Lr-188) and transporting 293.000
annual passengers in 1967 to the operation of seven Boeing 737-115 passenger
jets and one Electra serving 1.4 million customers in 1974.
The corporate mission of the company is to provide low-cost commuter-type air
.service in markets that do not have required service or receive poor and inade-
quate .service from interstate airlines. Of the 19 markets presently served by Air
California, 12 received first time service from Air California, 2 received better
service, and 5 received competitive service. The State of California is to be
admired for its foresight in recognizing the need for intrastate air transportation
and enacting legislation which established an orderly control mechanism for
route authorities, tariffs, and financial guidelines. California, if it were a nation,
would indeed be the eighth largest economic producer (gross national/state
product) in the world, so it naturally follows that communication and transporta-
tion are vital and dramatically necessary in an ever-changing way.
The Public Utilities Commission has been responsive in the recognition of new
service route needs, and has been able to meet such needs through tlie avail-
ability of two rather large, viable, and competent transportation companies. Air
California and PSA. The existence and growth of our companies is adequate and
strong testimony as to the need for services of the type offered and the good judg-
ment of our regulators. Tliere is no question in my mind that services of the
type we provide which are quickly responsive to new market needs and priced in
innovative packages which develop markets with maximum speed would not be
possible in the framework of present interstate certification processes.
Our.s is an operation in which fares are priced at minimum levels which can be
realistically supported by expected load factors. We. like all other air carriers,
are currently caught in a pinch because of fuel prices. Although the Commission
has been attentive to the fuel price increase, the additional 19 percent in our fares
has somewhat depressed trafBc. In comparison to other airlines, intrastate and
interstate, our fares are in some instances lower and in some instances slightly
higher. Our fares are lower than Hughes Airwest, however slightly higher than
Continental, Western and PSA in our Ontario to Sacramento service. In order to
encourage discretionary travel. Air California offers and is highly supportive of
reduced rate incentives. We offer a discounted family plan, military fare, group
rates, and a standby E-z fare (20 percent reduction on certain selected low
volume flights).
Our operating costs are somewhat lower than the interstate carriers since we
are relatively a new carrier and our seniority rates are not as mature as others.
The price of our supplies, including fuel, spare parts, miscellaneous equipment,
oflSce supplies, etc., are probably comparable to those of other air carriers.
We don't look upon ourselves as a cutrate airline for, in fact, we charge fares
that permit a fair level of profitability potential and offer services which are
comparable to those of any air carrier operating .short segment flights .similar
to ours. We require a relatively high load factor for breakeven and we maintain
these load factors by effective scheduling of individual flights on daily schedules
which match peak demand. That is, we schedule more trips on days which pro-
vide higher traffic i>otential (Fridays, holidays, etc.), and contract .schedules on
days of expected minimum activity, i.e., Saturdays, day after holiday, etc. We are
able to control capacity through the use of our modern, computerized reserva-
tion .system which utilizes the data bank of Continental Air Lines.
Our type of operation, which is based npon high frequency on short flight seg-
ments, requires close adherence to published flight schedules. The maximum
possible completion of our scheduled trips on time is a constant concern. Our
completion factor for the year 1974 was outstanding — 99.8 percent with 89.2 per-
cent of the flights operating on time (within 15 minutes).
Although our intrastate customers enjoy a high level of service proficiency,
we are not able to offer interline ticketing or interline baggage exchange. This
deficiency is brought about by the possibility of our being con.sidered an inter-
state carrier if such service was offered. On two occasions we have requested
Civil Aeronautics Board is.suance of an exemption to permit interlining of
baggage and tickets with stated restrictions which would negate the possibility
of straight-through, direct interstate commerce. We understand the technical
regulatory problems involved in the consideration of this matter; however, we
believe that the traveling public would be best served through the adoption of a
plan which would offer our services for trips which were not, in fact, interstate
in nature.
Transportation services, in order to be effective and of value, must meet the
needs of the people they serve. These needs are not static, but rather ever-chang-
452
ing. We believe the ingenuity and flexibility brought to the air transportation
industry by carriers such as Air California should be recognized as beneficial and
that the continued expansion of their services should be encouraged.
We are proud to be a member of an industry which provides services which
are so vital to our national economy and well-being.
We thank you again for the opportunity to appear before you and would be
pleased to answer any questions which would be of benefit in your consideration
of these matters.
Senator Kennedy. The next testimony will be from Dr. William A.
Jordan, professor of managerial economics at York University, To-
ronto, Canada ; and Dr. John R. Summerfield, president of Summer-
field Associates, a transportation research and consulting firm.
During the past 27 years, Dr. Jordan has worked for Scandinavian
Airlines System, Air France, Seaboard World Airlines, and Western
Airlines. Dr. Jordan has consulted on airline and airport matters. He
has taught graduate courses in economics and government regulation
at Columbia, Stanford, Northwestern, U.S. International, and York
University, and he is a colonel in the Air Force Reserve. Dr. Jordan
is well known for his publications on airline regulation and capacity
agreements.
Dr. Summerfield has directed transportation research at the RAND
Corp. and has served as corporate economist and director of economic
studies at Douglas Aircraft Co. and as vice president of economic
planning at Western Airlines and Pan American World Airways.
Dr. Jordan, do you want to start, please '^.
STATEMENTS OF DR. WILLIAM A. JORDAN, PROFESSOR OF MAN-
AGERIAL ECONOMICS, YORK UNIVERSITY AND DR. JOHN R.
SUMMERFIELD, PRESIDENT, SUMMERFIELD ASSOCIATES
Dr. Jordan. Thank you.
My presentation today is based on research for the past 10 years on
the effects of CAB regulation. Rather than attempt a theoretical study,
I decided the best way to do this would be to compare the actual per-
formance of CAB-regulated airlines with the benchmark of the actual
performance of those airlines not regulated by the CAB.
The nonregulated airlines are primarily the intrastate airlines, but
not entirely. This study covers the post-World War II period with
emphasis on the years since 1949.
CONTROL OF INDUSTRY ENTRY IS NECESSARY FOR REGULATION
One conclusion of this study is that a necessary condition for effec-
tive regulation is the control of entry. It is necessary to control entry
to prevent rival airlines from entering should regulation cause fares
to rise above average costs, and it is necessary to prevent entry in case
costs themselves rise above the minimum average achievable.
The CAB has effectively closed entry into U.S. interstate airline
operations. There have been 16 to 10 trunk carriers, decreasing in num-
bers from 1938 to the present time, with Pan Am being another large
carrier, but primarily international.
There have been 21 to 8 local service carriers from 1946 to 1950
to the present time with Air New England being the latest addition
after a 25-year hiatus in the authorization of such carriers.
453
In 1973, tlie total operating revenues of all U.S. airlines operating
large aircraft were approximately $13 billion. Of this $13 billion, the
10 trunks plus Pan American counted for 81.2 percent, and each of
these trunk carriers served between 37 and 111 cities with 60 to 390
aircraft each. Local service carrier share was 8.2 percent of the $13
billion, and they served 50 to 9,5 cities per carrier with 33 to 133 air-
craft. So these two CAB-regulated airline groups together have
accounted for 92.4 percent of the $13 billion or a total of roughly $12
billion of this $13 billion.
All other airlines in the United States accounted for the remaining
7.6 percent or roughly $1 billion.
DISECOXOMIES OF SCALE: 100 TO 2 00 AIRLINES WITPIOUT REGULATION
The conclusions of my study indicate that without CAB regula-
tion there would be between 100 to 200 or more airlines in the United
States operating large aircraft in scheduled service, and figure No.
1, which is the one in the corner there, summarizes this. Twenty CAB-
regulated trunk and local service carriers plus Pan Am as opposed to
200 or more nonregulated airlines without the CAB.
Senator Kennedy. How can you make a statement like that when
we have just heard from two operators, one of whom felt that unless
you were very sure that you would be able to build up G5-per'cent
passenger capacity, that you may very well go out of business? Here
we have 20 with regulation. You talk about 100 to 200. How do you
draw that conclusion? Would it not oversaturate the market and
cause finnncial turmoil and disaster among carriers?
Dr. Jordan. We shoidd recognize that the nonregulated airlines
have all been smaller lines.
Senator Kennedy. Does that mean you go on a small line from
Boston to Washington?
Dr. Jordan. Yes, it would operate from 3 to 4 to 6 planes as opposed
to 40 to 60 to 400 ail-planes. The point is there is enough traffic to sup-
port small airlines with three or four aircraft and make them liable.
They will be able to achieve all the possible efficiencies with that small
operation, and such small airlines have been viable in the California
and Texas situation without regulation.
What I am saying is that without regulation which causes airlines
to be large, you would have a large number of small airlines, each one
specializing in a certain kind of operation.
Senator Kennedy. Wliy does regulation require that the airlines
be large?
Dr. Jordan. Because, given entry control, the trunks have been
limited to those certified in 1938 and the local service carriers limited
to those certificated between 1946 and 1950. and these ar-e the only air-
lines that have been allowed to provide interstate seivice. As the city-
Dairs haA'e expanded and total traffic has expanded, these airlines have
been required to expand. Also, when an airline makes a major mistake,
it is forced to merge like the Capital-United merger of some years
back so with no entry the size of the remaining airlines increases.
Closed entry is the cause of large airlines.
Senator Kennedy. If you had a greater number of airlines sictually
required to go into a merger situation, as you pointed out, why does
454
that not run contrary to your thesis that you would have 100 to 200,
if the experience has'^been in recent times that the total numbers have
actually reduced? Why do you not believe if you start out with 100,
that it will finally contract down to the 20 or so even without the
regulation ?
Dr. Jordan. Because without regulation we find that airlines can be
efficient, low-cost carriers with small numbers of aircraft, and there-
fore, as airlines become larger they become less efficient, and we will
lose business to the small airlines that will enter.
I should mention that one very striking comparison — we have had
merger acquisitions in CAB regulation. There has not been a single
merger application in a nonregulated environment.
Senator Kennedy. Is it more efficient to have a smaller number of
planes and more airlines, or a larger number of planes and fewer air-
lines? It seems to me, for example, in the terms of trucks supplying
the planes with gasoline or handling baggage that you would have
regulated lines. Let us take, for example, the case of the trucks supply-
ing planes with gasoline or handling baggage transfer. On the one
hand, you would have the larger regulated airlines using one gasoline
truck to refuel planes all day, while, on the other, you would have the
smaller airlines using one gasoline truck to refuel four or five planes.
Dr. Jordan. In response to that question, the gasoline truck is
usually owned by the fuel company. It supplies airlines and it does
not have to supply one airline.
Senator Kennedy. Is that true of all these other services?
Dr. Jordan. Yes ; in terms of overall cost
REGULATED FARES ARE 4 0-7 0 PERCENT HIGHER THAN UNREGULATED
Senator Kennedy. Let's continue with your other testimony.
Dr. Jordan. Fine.
Given closed entry, we find what are some results of CAB regula-
tion. One clear result has been higher fares. I have shown in figure 2,
a comparison of fares Avith regulation as opposed to fares without
regulation. Those in red are with regulation. I have broken them down
into short-haul, which I have defined as 0 to 250 miles, more or less;
medium-haul from 251 to 1,000 miles; and long-haul over 1,000 miles.
I have shown the Boston-New York, Boston-Washington, and Boston-
Los Angeles fares as examples for these mileage categories.
In the case of a short-haul, the California analysis implies that the
fares with regulation are between 40-70 percent higher than without
regulation, and this is the basis for the difference between $25.93, which
is the actual regulated fare between Boston and New York, and the
$15 fare without regulation.
In terms of medium-haul, we find that the fare differences are
around 75 to 100 percent, w^hich is a difference of $41.67 with regula-
tion, versus $21 without regulation for the Boston-Washington fare.
Finally, for the long-haul, we find fares roughly 100 percent larger
with regulation, whicTi gives you the $187.04, the actual fare today,
as opposed to without regulation, approximately $95.
Now, these large differences are in city fares that have relatively
high traffic density, being defined as over 100,000 passengers per year.
The same analysis applies for small city-pairs with the fare differences
455
not as lai'^e, but witli the noiu'e^ulated fares still lower than regu-
lated fares. This analysis is based upon California, but supported by
similar analyses in the Texas case, in the military airlift case where
we had re^ilation by the CAB, imposed in 1960, and it is supported
by a comparison with reg:ulated fares in Canada, between Montreal
and Toronto. We find with regulation in Canada, their fares are high,
roughly the same as regulated fares in the United States.
So, without regulation fares are lower. With regulation, fares are
higher.
Senator Kennedy. Why ?
REGULATION INCREASES COSTS SERVICE COMPETITION
Dr. Jordan. Well, that is the next question. If prices are so high
why are there not large profits, for example.
Well, it appears that regulation also serves to increase costs of opera-
tion. Fares go up, costs also go up.
This is a major area of work. I have identified three important
sources of these difPerences in cost. One source is decreased aircraft
utilization. The second source is lack of specialization among the regu-
lated airlines. The third source is the purchase of more and more in-
puts at higher prices, that is labor and aircraft, for example.
First, the matter about aircraft utilization. CAB regulation for the
last 86 years has been asymmetric, it has been complete in entry and
exit, it has been very effective in price, but it has been ineffective and
almost nonexistent in the matter of service quality. Furthermore, the
CAB has failed to allocate specific market shares to each airline. In-
stead, it has certified two or more airlines in many city-pairs where-
upon it has said all right, fellows, your prices are fixed but you are in
this city-pair, go ahead and get what you can get. The airlines' re-
sponse has been well, we are controlled pricewase but not service
qualitywise, let's have superior service quality. The way to do that is
to operate brandnew airplanes at high-schedule frequencies. They
have done this. Furthermore, they put fewer seats in their aircraft,
and even given fewer seats, they have operated enough frequencies
to give theui lower numbers of passengers per flight, low-load factors.
Now, I have on figure No. 3, which I will refer to very shortly,
an explanation of what this means in terms of cost. Looking only at
aircraft costs, just the aircraft from the viewpoint of the airline costs,
if we increased the load factor from the current 56-percent level,
Avhicli is what it was last year, 1974. to 70 percent, a 25-percent in-
crease, and by the way, the 70 percent load factor is the lowest load
factor that existed between 1955 and 1964 in California. Quite feasibly,
it has occurred regularly without regulation. If we have this kind of
load factor in all U.S. operations we would decrease the fleet size by
20 percent, 25 percent increase in load factor, 20 percent decrease iii
passenger flights.
^ Such a decrease in the fleet would reduce the value of the aircraft
fleet from the present $12.25 billion, undepreciated value, for the
trunk airlines, to about $9.8 billion.
A second factor would be if we increased the average life of each
aircraft by 25 percent, going from sav 14 years, which is an average
allowance for present CAB airlines,' to i7i/> years, you would de-
456
crease the average annual replacement costs from $875 million to
$560 million per year, or a saving of $315 million per year, roughly
$1.90 per passenger enplanement. Now, that is just one cost factor
which results in an appreciable decrease in costs.
Wlien you combine this with a decrease in operating costs associ-
ated with a decrease in the number of flights by 20 percent, you can
see very quickly you get into very large differences in cost.
A second source of the reason that the intrastate carriers are low-
cost is their ability to obtain a higher output per employee. Now, they
are all small, the intrastate airlines. They have usually one kind of
aircraft. Each provides a very specialized service and they find that
the result of this has been employee specialization which has resulted
in large outputs per employee.
If you look at figure No. 4 behind you. Senator, these are fig-
ures for 1965, which is not the most favorable year for comparison,
because PSA had better years, but it is a good average year, the output
per employee of the average trunk carriers measured on available
seat-miles per employee was 603,000 available seat-miles per employee.
Compared to PSA's 1,270,000 available seat-miles.
Looking at the next two columns, revenue-passenger miles, the aver-
age trunk carrier had 333,000 revenue-passenger miles, PSA had
804,000. It is a difference of 141 percent. Senator.
It it only fair to point out these figures are biased against the trunk
carriers. They do not include cargo production. Yet the total number
of employees does include cargo.
The third series of figures attempts to correct this bias. They pro-
vide figures biased against PSA. These are revenue figures. In 1965,
the average yield per revenue-passenger mile for PSA was 3.85 cents,
while trunk yield was 5.93 cents, roughly 50 percent higher. So it took
PSA half again as many passengers to get the same revenues.
PSA had revenues per employee of $32,500 versus $22,200 for the
average trunk. Even with the figures biased against PSA, it is still
superior.
Taking these three comparisons and making adjustments, approxi-
mating how it works out overall, I would estimate that PSA is roughly
100 percent more productive per employee than the average trunk air-
line. That is an appreciable difference. This is an important cause of
the lower costs of the intrastate carriers.
The final point is the matter of increased input prices. CAB has
closed entry. Therefore, if any of the airlines buy their inputs from
organizations which have monopoly power, then some of their monop-
oly gains, some of the airlines' monopoly gains can be captured by their
input suppliers. We find evidence of this in terms of the labor share
per total cost.
Here we find in figure No. 5 that for 1973 the average trunk carrier
had 44.3 percent of its total costs accounted for by labor costs, while
three intrastate carriers in 1974, that is, for 10 or 11 months in 1974,
had an average total cost of 26.1 to 34.0 percent — much lower than
the trunk or local service carriers. This is evidence that there are higher
costs, higher prices paid to inputs by the regulated airlines.
In terms of your aircraft, the other major input into airline opera-
tions which the airlines must purchase, you have a situation where the
manufacturers are encouraged to produce, to modify their aircraft and
457
give variations. A number of modifications are bought by tlie airlines
so that manufacturers make a large number of different' kinds of air-
craft, thereby increasing production costs and aircraft prices. The
demand is great by the airlines because they must have the most mod-
ern aircraft to provide high-quality service. '
Those are three major sources of differences in airline costs with
regulation as opposed to without regulation.
TOTAL COST OF REGULATIOX
Senator Kennedy. Have you figured out how much that would save ?
Dr. Jordan. A rough estimate. Senator for the trunk carriers in
1973, total operating costs were about $10.6 billion. It is my best esti-
mate that without the regulation it would be reduced down'to approx-
imately $7 billion, a saving roughly of $3.5 billion, an appreciable
difference.
Senator Kennedy. Do you figure, that based upon these variables,
$31/^ billion could be saved by consumers with deregulation?
Dr. Jordan. Yes, that is correct.
EFFECT OF COMPETITION ON SAFETY
Senator Kennedy. What about safety ? How can we be sure that if
we get these 100 to 200 airlines without regulation that we are not
going to have people's lives endangered ?
Dr. Jordan. Well, we turn again to the evidence. First of all, all
airlines, whether interstate or trastate, are controlled by the Federal
Aviation Agency, regardless of CAB regulation. So they have that
same requirement for safety as controlled by the FAA.
Second, within California there have been two fatal accidents,
one a DC-3 in 1949, with a loss of nine lives, including the wife and
son the owner of the airline, which was a painful experience for him.
In 1964 there was a second crash, an airline operating out of Lake
Tahoe, which is a very high altitude and a small airport, with a loss
of 85 lives. In both cases the airlines went out of business, the second
case because the FAA rescinded the operating license, but nevertheless
they went out of business which gave the intrastate carriers the sus-
picion that perhaps if they are unsafe they would not be around very
long. So tliere is motivation to be safe in that very real sense.
In terms of deaths per revenue-passenger miles, those two accidents,
given the low-traffic base for the period from 1949 to 1965, give a
relatively high average of number of deaths per 100,000 of revenue
passenger miles. But if you extend those same number of fatalities into
the present time, roughly 8 more years, it goes down to approximately
that of the trunk carriers. So the evidence is not clear, based on those
two crashes for the shorter time period, less safety, more fatalities per
100,000 revenue-passenger miles. If you extend the period you find
comparable safety. Again the key point is if you are unsafe, if you
are small, you are going out of business, because there are very good
substitutes available to take over your business.
Senator Kennedy. That is a pretty tough test for 100 or 200 car-
riers. I would think that people would want to know with 100 or 200
carriers, which ones ave safe. They are on the market today and if they
have a fatality they are out, but couldn't they come back under some
458
other name ? How wil] we be able to give the kind of assurances
that would prevent this ?
Dr. Jordan. I would say it is important for the FAA, who must
check the management of every airline and its operating procedures,
to be very careful about that. If the airline has a crash and the airline
goes out of business because they are negligent, tlie FAA should be
responsible to make sure those same j)eople did not go back into busi-
ness, would suspect.
Also, once you do have a crash in your operation it is harder to re-
enter without regulation.
UXFAIR COMPETITIOK (PREDATORY PRICING)
Senator Kennedy. What about predatory pricing ? Would that not
bring about a good deal of chaos for the consumer ?
Dr. Jordan. Well, Senator, I have just finislied a study of predatory
pricing and practices. The theoretical background provided by Pro-
fessor McGee years ago said predatory pricing is rare because it is
costly. You can do it easier by merging, buying them out.
I had three cases where it was alleged, predatory cases. I tested
those and found in two cases there was great doubt as to any predatory
practices. In one case there may have been, but again not sure. This
is consistent with the position that predatory practices are rare. I,
therefore, suspect that with a large number of airlines you will have
relatively little predatory practices. If you can get new" entry, why be a
predator ? The guy goes out of business if you take him over ; other-
wise, his assets remain and can be used for reentry. Predation is very,
very costly and rare.
PACIFIC SOUTHWEST AIRLINES— INCREASINGLY RP^GULATED
Senator Kennedy. Have you had any practical experience in the
airline industry ?
Dr. Jordan. Yes. I started working with the airlines in December
of 1947. My experience spans most of the post-war period. As you
mentioned, I worked four airlines, most recently from 1960 to 1964
for Western Air Lines in Los Angeles, and I worked as an airport
consultant from the airport viewpoint, and of course, I have my mili-
tary service with the Military Airlift Command.
Senator Kennedy. After all of this has been said and done, could
we not explain it that perhaps PSA is under California regulations
and this is just sort of a specialized situation in California?
Dr. Jordan. Well, California regulation is interesting. Senator.
They are starting to change. Before 1965, there was little regulation.
Open entry, no regulation of price decreases. Anybody could come in
and offer their initial fares with no questions asked.
Following 1965, the California Public ITtilities Commission was
given jurisdiction, and they have perhaj^s since 1969 closed entry.
It takes awhile for these adjustments to take j)lace. Things do not
happen overnight. PSA is starting to act like a regulated airline. We
find between 1969 and January 1975, this last fare increase, that their
]5ercentage fare increase is very similar to the percentage increases of
the airlines regulated by the CAB.
459
You notice on that figure Xo. 5, PSA of the three intrastate carriers
has tlie highest labor share of total costs. It is getting out towards the
level of total trunk carriers.
My hypothesis is that 10 years from now when I do a restudy of
the California situation that if the present PUC situation has Ijeen
maintained we will be finding PSA and the others more like the CAB
airlines.
Senator Kennedy. Why is that ?
Dr. Jordan. Because California regulation has become very similar
to CAB regulation, different in procedure or different in its detail,
but the economic results from fragmentary evidence since 1969 indi-
cate that the cases are becoming very, very similar. Closed entry in
California is very important.
Senator Kennedy. Mr. Summerfield.
Mr. Summerfield. Thank you. Senator.
My testimony does not differ in fact very much from Dr. Jordon's.
It is" a fact that costs are different. I present a different interpretation
of why these costs are different. It is based on a study of the actual
operating environments of the infra-California carriers versus the
trunk and local service carriers.
COSTS saved by PSA BECAUSE IT DOES NOT FLY INTERSTATE (INTERLINING,
TICKETING, ACCOUNTING)
To summarize briefly what is contained in a little more detail in
my written testimony, a number of differences exist because of the
fact that PSA and Air California are intrastate carriers operating in
restricted geographical areas. In the first place, because they don't
do any interline work, as Mi\ Clifford pointed out, the reservations
clerks don't need to know anything about how to get from Santa Ana
to Boston because they are not allowed to route you that way. This
means you don't have to train them, a major saving in training costs.
But the big saving is in the time they spend on the telephone when you
call for a reservation. They simply' make point-to-point reservations.
According to my estimates, the average length of call for reservations
is at least three" times as long for a trunk carrier as for an intrastate
carrier. This represents about a 3 to 1 difference in the manpower
required to man the reservation system.
A second way in which this carries over is in the ticketing. PSA
uses a very simple cash register receipt as a ticket. They don't have
to figure out what the fare is between Boston and iNIodesto, Calif., a
market for which there may be no quoted fare. A carrier that writes
interline tickets must add up fares through several routes to be sure
they have the lowest fare. Again, there are substantial economies
because intrastate carriers cannot do this.
Senator Kennedy. If the agents did have interline training the same
as other carriers, couldn't that mean that they would gain more rev-
enues because they would get additional kinds of services?
Mr. Summerfi?:ld. That is possible, that they would gain
additional
Senator Kennedy. Isn't it likely? Don't you suppose they would
certainly get some?
460
As I understand, if you want to go from Boston to San Francisco
to Los Angeles, and you want to fly that San Francisco to Los An-
geles leg on PSA, which is cheaper, you can't get a ticket on it.
Mr, SuMMERFiELD. You can if you wait till you get to San Francisco
to buy the ticket.
Senator Kennedy. That is the point. If people wanted to fly, and
knew PSA was cheaper, wouldn't they take PSA ? And would not that
help to offset additional training costs for reservation clerks?
Mr. SuMMERFiELD. It might. It would expand the whole system.
Senator, so they would end up having more airplanes and more flights.
Whether the cost would go up proportionately or not, I do not know.
Senator Kennedy. Maybe load capacity would change from 65
percent full up to 75 percent.
Mr. SuMMERFiELD. I dou't kuow, Senator. That is speculation. What
I have tried to do is limit myself to the areas in which there are data
to support the analyses.
Revenue accounting is a third way in which this lack of interlining
saA'es the intrastate carrier a good deal of money.
Senator Kennedy. What is the cost for interlining, have you figured
that out?
Mr. SuMMERFiELD. ]\Iv estimate for those three functions for PSA,
for reservations for ticketing and for revenue accounting, is on the
order of $11 million a year difference for the size of operation that
PSA now has. This is based on data on the cost per passenger of these
services and some estimates based on my experience.
Senator Kennedy. How much does that work out to per passenger ?
Mr. SuMMERFiEiJ). A little under $2 a passenger. PSA said they
carry about a little less than 61/0 million passengers a year.
Senator Kennedy. So it is about $1.50.
Mr. SUMMERFIELD. $1.50, $1.70.
Senator Kennedy. Even with a $1.60 additional charge, it is difficult
to explain, the sizable difference in the fare between PSA and the CAB-
regulated airlines.
INIr. SuMMERFiELD. That is right, but there are other factors, some
of which have been mentioned, but let me try to put some on dollar
amounts on some of these other factors, also.
COST SAVED BY PSA BECAUSE IT DOES NOT SERVE FOOD
They don't have food service. If food service were at the relatively
simple level of local service carriers, in other words, and if they had
longer routes on Avhich some food service was required or they felt it
was necessary to give the kind of food service that, for example, local
service carriers do, that might add another $3 million. That is based
on
Senator Kennedy. But, they don't have that, do they ?
]Mr. SuMMERFiELD. Xo, they do not have the kind of route structure
that operates over longer distances; typically they have about 1-hour
flights. On 1-hour flights, liardly anybody serves food.
If they had a longer loute structiire and operated like the trunk or
local service carrier, then in all likelihood they would liave food service.
One of tlie main ways they benefit from this is that, because they
don't liave food service, thev don't need aallovs, and there is room for
461
additional seats. This provides them room for extra passengers on
flights that woukl othei-wise be sokl out and not avaihible.
Senator Kexnedy. From the consumer's point of view, there is no
real problem with that, is tliere? If they want to give up lunch, for
that hours ride either from Los Angeles to San Francisco, or, from
Boston to Washington, can't they ?
Mr. SuMMERFiELD. No, I am merely trying. Senator, to explain the
differences in cost structure between two different types of operation,
and trying to explain why these costs actually exist. It has really noth-
ing to do with the regulatory process is what I am saying. The differ-
ences result from the natui'e of the I'oute structure in some cases or the
nature of the geograjihical confinement of the system. In fact, if you
had 100 to 200 different airlines, as Dr. Jordan suggested, many of
them would have these short segments and some of these differences
would appear.
INTERLINING
One of the problems, however, with these self-contained units like
PSA and Air California is that, if they existed for the whole country,
it would be terribly difficult to get around because of the point you
brought out a minute ago. You can't make a reservation — you can make
a reservation if you mnke a long-distance telephone call. You can't get
a ticket here.
If we had many of these small intrastate operations the whole inte-
grated system we depend on, not to get from here to Los Angeles or
Washington, but from here to Podunk would fall apart. We would
have a difficult time getting all these connecting services tied into the
different carriers.
Senator Kennedy. Is there any reason this couldn't be computerized
in some kind of central agency ? As I understand, in less than a minute,
a Chicago policeman can call in an automobile license plate and find
out wlio owns it.
INIr. SuMMERFiELD. That is correct.
Senator Kennedy. Is it so difficult then to computerize ticket inter-
lining?
Mr. SuMMERFiELD. Of tile 58,000 city-pairs that are now served,
many don't have fares quoted between them. For those with fares
listed in the OAG there could be a retrieval process, though it might
be expensive. Rut for the person who wants to go from here to Chicago,
to Des ]Moines, and then down to Dallas and so on, the airlines have
spent a lot of money trying to computerize this and they have found it
really can't be economically done except for the relatively simple
itineraries.
Senator Kennedy. You mean everybody who is traveling from
Boston to Washington is paying for compiiterized fare construction
for the person flying from Fargo to Podunk, and if they are, we ought
to know about it, shouldn't we ? We are already paying too much in
terms of energy underwriting for other areas of the country, and now
we find that when M-e go fi-om Boston to Washington Ave are paying
for that integrated system as well.
Mr. SuMMERFiELD. But that part is not in the computer because it
was just too expensive to do it. It is really the very simple routings
that are in the computerized systems of the airlines. If you want to
462
ask these questions of representatives who operate these computer
systems
Senator I^nnedy. Let me get back to another point, when you were
talking about the route structure and about how it really wasn't the
CAB, but it was tlie route structure that determined such considera-
tions as food service. Isn't it really the CAB that develops those
route structures ? Couldn't they, by regulation, provide that there be a
more efficient or lower cost service, in these particular areas?
Mr. SuMMERFiELD. Well, the CAB has, of course, no authority to
set fares. Fares are recommended or applied for by the carriers based
on their need to get a return on their investment. What I am trying
to point out is that there are differences in the cost structure of the
trunk and local-service carriers from the cost structure that exists in
a small intrastate carrier. These differences make it difficult, impossible
in many cases, to operate at lower fares for a larger system. There
are other costs, and I am trying to review with you basically what
those costs are.
Some of them are the result of having an integrated system, which
makes it more convenient for the public,
LABOR COSTS SAVED BY PSA
There are some costs related to unionization, that is, the union rules.
One of these has to do with productivity. The one reason that cost
differences are narrowing is that as airlines get older, the unions
organize the workers and get stronger. Although PSA pays its pilots
about the same amount per hour as its com|>etitors do, they have a
different set of operating rules that enable PSA pilots to get maybe
20 hours a month more flying time within the same maximum time
than trunk carrier pilots do. This is a matter of union regulations, not
of the management of the airline. Dr. Jordan's speculation that PSA
labor rates are going up is probably a reflection that the unions get
stronger as the airline gets stronger and as the airline is older.
Mr. Guske pointed out that younger airlines have lower seniority
structure and hence a lower wage-cost.
On the basis of the numbers that I was able to get from the rela-
tively sparse data that was published with the public Utilities Com-
mission, my estimates. Senator, are that if PSA operated in the same
operating environment and with the same kind of route structure as
the trunk and local-service carriers, their pretax profits would have
been reduced on the order of $20 million.
Senator Kennedy. As I understand this, PSA has about 6i/^ million
passengers so that $20 million in increased costs would mean about
$8 additional fare per passenger. Yet PSA's fare from San Francisco
to Los Angeles is $6 lower than the CAB carriers' intrastate fare and
$18 lower than their interstate fare. Even taking the lower figure for
the moment, how can you account for the other $8 ?
Mr. SuMMERFiELD. I dou't liave a complete answer to where the dif-
ferences are. Senator, and there are other differences that I have not
been able to get any data on. I have, for example, not been able to
make any estimates of differences in the training costs that I alluded
to earlier, or some of the other differences. The $20 million is based on
463
those things for which I was able to get data from the rather sparse
amount of data available for the Public Utility Commission filings
and PSA applications for fare increases.
Senator Kennedy. Fine. Thank you.
Mr. Jordan, do you have any comments you want to make on any
of these points that have been raised ?
Mr. Jordan. I agree with Dr. Summerfield that if PSA were
allowed to operate in the manner of trunk carriers they would indeed
have higher costs. My position is that trunk carriers operate the way
they do — not because they are bad people — but because they are regu-
lated and they have certain rules they follow and this kind of game
results in these kinds of outputs. PSA or nonregulated airlines do not
operate in this manner. This is the whole point. They would operate
efficiently in long-haul services as well as short-haul services. The only
reason why PSA is a short-haul carrier is because it can't be a longer-
haul carrier, it is limited to California. Part of the folklore of the air-
line industry is that long-hauls are good, not bad, yet intrastate car-
riers have been efficient even in short-haul operations.
In terms of the decreased profits, I would argue he is talking about
increased costs, not decreased profits, because as you pointed out he is
ignoring the revenue side of the interlining operation. But given his
cost estimates, which I don't agree with, but they have given them, the
difference is only $3 per passenger. I would assert that in the case of
reservations, for example, even if PSA did have interlining reserva-
tions the person who called in Los Angeles for a ticket to San Fran-
cisco would say, hello, when is your next flight to San Francisco,
fine, reservations for so and so, telephone number 893-1808, and hang
up, that is a minute call. There would be no long 3-minute telephone
conversations, I have things to do with my time and they have things
to do with their time. It wouldn't change for those simple kinds of
passenger trips. I see no reason why the cost would be inflated by a
large degree.
The point is that without regulation you have specialization. You
have carriers operating some type of aircraft in a very simplified man-
ner. There are no excessive aircraft purchases or excessive aircraft
operations. This saves a large am.ount of money. A 747 now costs $30
million; that is roughly the cost of this building, I would guess, and
when you start talking'about 100, or 200, or 300 large aircraft we have
important differences in cost. If you talk about differences in employee
output as I mentioned in figure 5, differences in costs are very impor-
tant, and this is due to regulation.
Senator Keiv nedy. Thank you very much.
[The prepared statements "of Dr. Jordan and Dr. Summerfield fol-
low. During the hearing of February 18, 1975, the chairman of the
subcommittee asked Continental Airlines to respond to Dr. Jordan's
testimony. The response by James L. Mitchell of Continental Airlines,
a reply by Dr. Jordan, and further remarks by Continental Airlines
are all printed after the prepared statement of Mr. Harvey Wexler
of Continental Airlines, which follows the testimony of the panel of
airlines on February 18, 1975, pp. 587 ff., below. Dr. Summerfield's
written responses to Dr. Jordan's testimony and to a subcommittee staff
memo are included after his prepared statement.]
464
Prepared Statement of Dr. William A. Jordan
QUALIFICATIONS
My name is Willian A. Jordan, I am a professor of managerial economics
at York University, Toronto, Canada. During the past 27 years I have been
employed in traffic, sales, and research positions by four airlines (the Scan-
dinavian Airlines System, Air France, Seaboard World Airlines, and Western
Air Lines), have consulted on airline and airport matters, and have taught
graduate courses and/or done research in economics and government regulation
at Columbia University, Northwestern University, Stanford University, U.S.
International University and York University. My Ph. D. in managerial eco-
nomics is from the University of California, Los Angeles, and my research
publications include the following : Airline Regulation in America : Effects and
Imperfections, 1970 ; Producers Protection, Pi-ior Market Structure, and the
Effects of Government Regulation, 1.5 Journal of Law and Economics, April
1972 : Airline Capacity Agreements : Correcting a Regulatory Imjierfection, 39
Journal of Air Law and Commerce, Spring 1973; If We're Going to Regulate
the Airlines, Let's Do it Right, in James C. Miller III, ed., Perspectives in
Federal Transportation Policy, 1975.
I am a colonel in the U.S. Air Force Reserve and since 1959 have been as-
signed to Headquarters, Military Airlift Command. I was a member of the
American Statistical Associaiton Advisory Committee for Statistical Research
to the Civil Aeronautics Board from 1967 until it was disbanded this past year.
My current professional memberships include the American Economic Associa-
tion, Western Economic Association, Canadian Economic Association and Cana-
dian Transportation Research Forum. Individually, or jointly, my wife and I
own stock in the following airlines : Air California, Airlift International, Braniff
International, Capitol International, Continental, Xordair, North Central, Pacific
Southwest, Sedalia-Marshall-Boonville, Southwest, United.
INTRODUCTION
A useful way to investigate the actual results of the activities of independent
regulatory commissions is to compare the performances of firms regulated by
such commissions with those of other similar firms operating beyond the com-
missions' jurisdictions. It is possible to make such cross-sectional studies of
Civil Aeronautics Board (CAB) regulations because the CAB does not regulate
all parts of the U.S. airline industry. The intrastate airlines operating entirely
within California, and recently, within Texas provide the best examples of
airlines not regulated by the CAB. Also, the CAB has exempted third-level/
commuter carriers from most of its regulatory control so long as they operate
only small aircraft. Furthermore, comparisons with Canadian airline perform-
ance can be useful because, while Canada is a different country, it shares many
geographical, demographic and social characteristics with the U.S.
Another way to measure the effects of regulation is to compare industry
performance before and after a major change in regulatory policy. Time-.series
studies such as these provide less reliable results than cross-sectional studies,
however, because considerable time often is required for the effects of specific
actions to come to full fruition. In the meantime, other developments may
impinge on or otherwise obscure the effects of the policy action under study.
Occasionally, though, time-series evidence can be quite useful, especially when
it corroborates evidence obtained from cross-sectional analyses.
A fundamental problem in using time-series data is estimating the effects of
government regulation is that a change in a regulatory policy merely results
in a relative change in performance under regulation. Unless the action to be
studied results in a change from where regulation did not exist to one where
it was implemented, there is no benchmark or baseline with which to deter-
mine the absolute effects of regulation per se. Without the benchmark of non-
regulated performance, it is difficult, if not impossible, to determine whether
some regulatory policy results in an additional deviation from non-regulated
performance by 10 percent, or 20 percent or whatever. For example, a CAB
action may cause the regulated trunk and local service carriers to raise their
fares by only five rather than 7 or 8 percent. Tlius, it might be argued that
CAB regulation decreases the relative level or regulated airline fares. This
may be true, but without knowing what fares would have been without CAB
regulation one can not conclude from this that such regulation reduces absolute
465
fare levels. It may well be that the existence of CAB regulation since 1938
has resulted in fares that are substantially higher than what would have
developed in its absence. If so, then any impediment the CAB now introduces
to fare increases merely serves to reduce the degree to which regulated fares
exceed non-regulated fares.
This testimony will present evidence from various cross-sectional and time-
series studies regarding the effects of CAB regulatory practices on the economic
performance of the regulated airlines. Emphasis will be placed on entry and
the number of airlines in existence, fares, and productive efficiency, with some
mention also being made of safety and profits. The primary source of this
evidence will be a comparative study of the California intrastate carriers and
the CAB-regulated airlines, supplemented by additional evidence concerning the
Texas intrastate carrier, Canadian airlines, third-level carriers, and the results
of extending CAB regulation over military charter operations.
CAB REGULATION HAS DECREASED THE NUMBER OF AIRLINES
One result of CAB regulation has been the effective restriction of entry into
airline oi>erations. The only airlines so far authorized to provide trunk service
were those who obtained their certificates of public convenience and necessity
under the "grandfather" provisions of the Civil Aeronautics Act of 1938 (52 Stat.
988). Today, 10 of the original 16 trunk carriers remain — the others having been
acquired by or merged with surviving trunk carriers.' The same is true for the
local service carriers. With the single recent exception of Air New England, all
of the existing local service carriers were among the 21 airlines the CAB al-
lowed to enter the industry during the "local feeder" experiment between the
end of World War II and October 1950. Again, acquisition by or merger with
other certificated carriers characterized the means by which failing local serv-
ice carriers have left the industry, and now only eight of the original 21 remain.^
The extent to which CAB regulation has effectively restricted new airlines
from impinging upon the activities of the original trunk and the local service
carriers can be seen by comparing the relative shares of the almost $13 billion
of overall operating revenues earned systemwide in 1973 by all U.S. airlines
operating large aircraft.^ The trunk carriers, plus Pan American, accounted for
84.2 percent of this total revenue while the local service carriers earned another
8.2 percent. Thus, these two groups consisting of 19 scheduled passenger/cargo
carriers accounted for 92.4 percent of the $13 billion, leaving the remaining 7.6
percent for the Alaskan, Hawaiian, territorial, helicopter, intrastate, all-cargo,
supplemental and other carriers (31 in all) that operated in 1973.*
This means that, combined, these 31 other carriers earned fewer operating
revenues than the local service carriers and less than one-tenth the revenues of
the trunk carriers and Pan American. One would think that the managers and
employees of the trunk and local service carriers would be quite pleased with
this situation and would feel that CAB regulation had been good to them during
these past 36 years. Indeed, had the early airline pioneers been told back in 1938
that CAB regulation would result in this allocation of such large oi>erating rev-
enues one would exi>ect they would have been quite pleased with the prospect.
But present-day industrj' leaders appear to be dissatisfied with this situation and
are endeavoring to increase their present dominant share. It should be recog-
nized, however, that none of these leaders proposes the abolition of CAB regula-
tion, merely its improvement.
In California, the California Public Utilities Commission (PUC) did not have
power over airline entry within the state until September 1965. During the years
from 1946 to 1965, at least sixteen airlines inaugurated scheduled service with
large aircraft within the confined area of California, and entry occurred through-
out these years rather than being concentrated in a single time period (as was
the case under CAB regulation). Fourteen of these airlines subsequently termi-
nated service after operating from only a few weeks to over six years. In not
one of the.se ca.ses, however, was a failing airline acquired by or merged with
1 William A. Jordan. Airline Regulation in America : Effects and Imperfections, 15-17
(1970). ALSO, a\B Handbook of Airline Statistics. 568-69 (1973 ed.).
2 Id.
SCAB, Air Carrier Financial Statistics. 1-14. 98 (December 1973); Air California,
Annual Report (1973) ; PSA Annual Report (1973) ; and Southwest Airlines Annual
ReDort (1973).
* The only carriers excluded from this compilation are the few third-level carriers who
have CAB exceptions to operate large two-engine propeller aircraft.
51-146 O - 76 - pt. 1 - 31
466
another carrier. This is in marked contrast to the consistent usage of these meth-
ods of exit by the CAB-reguIated airlines. This implies "that the asset of an air-
line that is of unique value to other airlines is its CAB certificate of public
convenience and necessity, not its aircraft, facilities, or good will, . . ." ^
Not only does the California experience demonstrate that CAB regulation has
effectively impeded entry into the interstate airline industry and has promoted
exit via merger and acquisition, but it also indicates that this regulation has
served to limit the number of airlines in existence at any point in time. Based
on the system sizes and traffic volumes of the California intrastate carriers, it
appears that without CAB regulation from 100 to over 200 airlines operating
large aircraft would have existed at any one time in the 48 contiguous states
from 1949 through 1965. This is in sharp contrast to the 35 to 24 trunk and
local service carriers that the CAB actually allowed to operate during that pe-
riod." Should this range seem unrealistioally large, one should note that a total
of 201 commuter air carriers Oii>erated under very constrained conditions during
fiscal year 1973, and that 126 of these small airlines operated for the entire
year.' Implicit in the conclusion that CAB regulation serves to limit greatly the
number of airlines in existence is the finding that there are no appreciable
economies of scale in nonregulated airline operations, and that a high degree of
specialization by airlines would occur without regulation.*
Effective entry control is a crucially important factor in protecting established
airlines, their employees and their suppliers. Not only does it insulate the air-
lines from the results of honest errors in judgment and from possible managerial
inefficiencies, but it also allows monopolistic or oligopolistic suppliers of inputs
(such as labor, aircraft, petroleum products and airports) to charge ever higher
prices for their products and services. All of these factors increase the operat-
ing costs of regulated airlines. Furthermore, market protection enhances the
viability of charging higher prices so that the regulated airlines can seek to cap-
ture monopoly profits. Given entry control, cost increases and higher fares can
persist because new, more eflScient carriers paying lower prices for their inputs
are prohibited by CAB regulation from entering the industry, offering lower fares
for their services and, eventually, replacing or reducing the sizes of the existing
airlines. Evidence on fare levels and operating costs will be presented in the
following sections.
CAB REGULATION HAS INCREASED AIRLINE FARES
Evidence from California
Article XII of the California State Constitution has long empowered the
PUC to regulate the intrastate rates and fares of all transportation companies,
including the airlines. In practice, the PUC has controlled airline fare increases,
but not decreases." Effective September 17, 1965, the PUC received authority from
the legislature to regulate entry and exit to and from scheduled airline passenger
service.^" It has exercised this power over entry with an enthusiasm comparable
to that of the CAB. To date, it has issued to just five airlines certificates of public
convenience and necessity to operate large aircraft (those carrying over 30
passengers) in scheduled passenger service. Four of these, including three "grand-
father" certificates, were issued in the fall of 1966," while the fifth, and last,
certificate was issued in early 1969 and then reissued in September 1971."
All other applications for certificates have been denied."
^ William A. Jordan, supra, note 1, at 17-14, esp. pp. 23-24.
« Id. at 24-32.
•CAB, Commuter Air Carrier Traffic Statistics, Year Ended June .30, 1!)73, 3 (June
1974).
^ William A. Jordan, supra, note 1, at 191-94.
»Id. at 2-4.
" Id. Also, State of California, Statutes and Amendments to the Codes, 196.5 Chapters,
A-3, 214.") (196.')).
It PUC decision 71310 (September 20, 1966) for Air California: rUC decision 71393
(October 11, 1966) for Pacific Southwest Airlines (PSA) : PUC decision 71490 (November
1, 1966) for :Mercer Enterprises, and PUC decisions 71648 (December 6, 1966) and 72.')60
(April IS. 1967) for Holiday Airlines.
1- PUC decision 7.")373 (Februar.v 25, 1969) issued a certificate to California Sierra Air-
lines which was revoked by PUC decision 7S6S2 (May 18. 1971) when this carrier failed
to inaugurate service. Essentially the same route to the Mammoth Lakes ski resort area
was then awarded to Sierra Pacific .\irlines in I'UC decision 79166 (September 21. 1971).
"For example, the applications of .\ir Metrooolitan and Pacific Air Transport to
operate between points in the Los .\n>,'eles and San Francisco metropolitan areas were
denied in PUC decisions 74S37 (October 15, 196S). and 76110 (September 3, 1969).
467
This change in California regulation provides some interesting comparisons
with which to evaluate the effects of entry control on fares. Prior to 19G5,
it is possible to make a cross-sectional comparison between the fares of air-
lines operating within California without entry protection and the fares of
CAB-regulated airlines who were protected from entry into their interstate
city-pairs. Then a comparison can be made between the fares of the intrastate
and CAB-regulated carriers after 1965 when both enjoyed closed entry. Finally, a
time-series comparison can be made for iiercentage fare changes by the two
types of carriers following the PUC's effective closure of entry after 1965. First
the pre-19()5 comiJarison.
One important aspect of PUC rate regulation was that the initial tariff of
a new carrier had to be accepted providing it conformed to basic technical and
publication requirements. " Thus, there was no regulation of the fares introduced
by new carriers. The first ma.ior period of entry by intrastate carriers occurred
in 1949 when seven airlines (including Pacific Southwest Airlines) inaugurated
coach service between the larger city-pairs and, in the process, introduced new
low fares. Of these seven airlines, only PSA has survived so its fares will be
used here, both because they are representative of those adopted by other intra-
state can-iers at the specified times and because they provide a continuous fare
history for the entire period.
TABLE l.-PSA'S COACH FARES COMPARED WITH CAB-AUTHORIZED IST-CLASS FARES FOR THREE MAJOR
CALIFORNIA CITY-PAIRS, 1949
CAB-authorized percent
CAB-authorized2 greater than PSA
City-pairs
One-way
Round trip
One-way Round trip '
One-way
Round trip
LAX/BUR-SFO/OAK
_ _ $9.95
$19.90
11.30
31.20
$21.05 $40.00
6.75 12.82
27.80 52.82
111.6
19.5
78.2
101.0
LAX/BUR'SAN
5.65
13.4
SAN-SFO/OAK
15 60
69.3
• Coach fares effective May 23, 1949 to Mar. 27, 1951.
2 Ist-class fares effective Sept. 1, 1948 to Apr. 29, 1952. From Feb. 1 to Oct. 14, 1949, the CAB authorized Western to
offer a "no-meal" tariff which gave a 5-percent discount on all fares. Thus, during this 9)-^-month period, Western's
one-way fares were equal to 1/2 the regular round trip fares.
3 A 10-percent discount was given on the return portion of round trip journeys by CAB-regulated airlines.
Source: William A. Jordan, "Airline Regulation in America," 276-78, 284-87 (1970).
Table 1 compares the 1!)49 coach fares of I'SA in the three major California
city-pairs with the first-class fares authorized by the CAB and utilized by United
and Western airlines who were the CAB-regulated airlines serving all three of
these city-pairs. It is necessary to compare coach with first-class fares in 1949
because CAB-regulated carriers did not offer coach service in short-haul city-
pairs at that time, making first-class their lowest available fare.
Table 1 shows that the CAB-authorized one-way fares ranged from 19 to 111
percent higher than the fares of PSA (and other intrastate carriers). The
greatest difference was in the Los Angeles-San Francisco city-pair where a medi-
um stage length (340 miles) combined with high traffic density resulted in low
operating costs for the intrastate carriers. The smallest difference was for Los
Angeles-San Diego where a short stage length (109 miles) and much lower
traffic density yielded higher operating costs and, therefore, higher fares per
mile.''' The lower fares introduced by the intrastate carrier greatly benefited
pas.sengers who preferred somewhat inferior service quality and low fares to
high-quality, high-price service. These passengers, in turn, benefited the intra-
state carriers by utilizing their services. In 1949, total traffic in these three
city-pairs increased 34 percent and almost one-third of all pas.sengers utilized
the low-fare coach service of the intrastate carriers. At the same time, the CAB-
regulated airlines' first-class traffic fell 9.4 i)ercent from its 1948 level.'"
As shown in table 2, this same fundamental fare relationship still existed in
1965 after over 16 years of open entry within California.
'< William A. .Tordan. supra, note 1, at 114. . .., x,,
i"' 194!» total on linp oricin and df'stination nassencer traffic on all carriers '" tJiejnrPe
major California citv-pairs were: LAX/P.TJR/LGR-SFO/OAK = 459,400' ; LAX/BUR/LGB-
SAX = 81,700 ; and SAX-SF0/OAK = 29,200. Id. at 307, 311, 315. ^^^ ^^^ .
« Total on-line O&D passpncer traffic for these three city-pairs grew from 426.000 in
1948 to 570,000 in 1949. Of the 1949 total, the intrastate carriers accounted for 184,300
passengers and the CAB-regulated airlines 386,000. Id.
468
TABLE 2.-PSA'S COACH FARES COMPARED WITH CAB-AUTHORIZED COACH FARES FOR THREE MAJOR
CALIFORNIA CITY-PAIRS, 1965
One-way coach fares '
CAB-authorized, percent
CAB-authorized 3 greater than PSA
City-pairs
Propeller
Jet
Propeller
Jet
Propeller
Jet
LAX/BUR-SFO/OAK
$11.43
$13. 50
6.35
19.85
$21. 70
9.45
27.15
$23. 70
10.90
29.25
89.9
48.8
52.7
75.6
LAX/BUR-SAN __._
::::::: 6.35
71.6
SAN-SFO/OAK
17.78
47.4
1 Round-trip fares equal twice the one-way fares for ail carriers.
2 Effective Apr. 20, 1965 to Aug. 2, 1969.
3 Effective Feb. 1, 1962 to Feb. 1, 1968. Applicable to interstate passengers making stopovers in these cities on journeys
originating and/or terminating outside California. Also, the jet coach fares were approved by the PUC in April 1962 for
intrastate passengers utilizing interstate jet flights.
Source: William A. Jordan, "Airline Regulation in America," 111, 279-87 (1970).
The lowest CAB-authorized coach fares for 1965 were 47 to 90 percent greater
than PSA's coach fares. This somewhat decreased range in fare differences,
compared with 1949, resulted from two developments. First, starting on May 14,
1950, the CAB allowed the interstate airlines to provide coach service and fares
in California city-pairs so this 1965 comparison is based on coach fares for both
categories of carriers." Second, since 1952 the CAB has promoted the adoption
of an ever larger fare taper whereby short-haul fares per mile (such as for Los
Angeles-San Diego) have been increased more than the fares per mile for
longer-haul city-pairs.^^ Generally speaking, given these developments, it can be
concluded that had CAB regulation kept the California intrastate carriers from
inaugurating service the coach fares in these three major California city-pairs
would have been those authorized by the CAB and, therefore, would have been
from 47 to 90 percent higher than they actually were.
Since the PUC has had the power to close entry since 1965, it would seem
reasonable to predict that differences between CAB-authorized fares and those of
PSA should now be less than before. To the contrary, as shown in table 3, even
following the PUC's most recent fare authorization (effective January 29. 1975),
the percentage differences between PSA's fares and those authorized by the CAB
(effective November 15, 1974) have increased to a range of from 70 to 108 per-
cent compared with the 1965 range of 47 to 90 percent.
The above findings are surprising, but it should be remembered that they
reflect the effects of accumulated fare changes since 1949. Actually, since the
PUC's decision to prevent new carriers from entering the major California city-
pairs was not fully implemented nor apparent until late 1969, it may be
TABLE 3.— PSA'S COACH FARES COMPARED WITH CAB-AUTHORIZED COACH FARES, FOR THREE MAJOR
CALIFORNIA CITY-PAIRS, JAN. 29, 1975
CAB-
authorized
One-way jet coach fares i percent
City-pairs J'^i^^l
than PSA
LAX/BUR SFO/OAK
$19.21
$39. 23
20.71
45.71
104.2
._ 9.95
108.1
SAN-SFO/OAK
_. .. 26.85
70.2
• Round-trip fares equal twice the one-way fares for all carriers.
2 Effective Jan. 29, 1975. „ .
3 Effective Nov. 15, 1974. The CAB has authorized an additional fare increase and restructuring to become effective
Apr. 29, 1975.
Sources: CAB orders 74-11-62 (Nov. 14, 1974) and 74-12-109 (Dec. 27, 1974). PUC decisions 83814 (Dec. 10, 1974),
83918 (Dec. 30, 1974) and 83939 (Dec. 30, 1974). Norman Richards, Asst. Chief, CAB domestic passenger fare section,
telephone conversation (Jan. 14, 1975).
I'' Id. at 78.
i« Id. at 64-65. Also, CAB Orders 74-3-82 (March IS, 1974) and 74-12-109 (Decem-
ber 27, 1974).
469
more meaningful to look for possible effects on fares from this action by
comparing fare increases between 1969 and early 1975 than by comparing fare
levels in 1975. It happens that the CAB-authorized two-fare increases in 1969 —
the first significant increases since February 1, 1962 — with the second resulting
in a major increase and restructuring of coach fares that became effective on
October 1, 1969.'° Similarly, the PUC also authorized PSA to increase its fares
twice in 1969 with the second becoming effective on December 3 ; and it happens
that these increases were the first implemented by PSA since December 12, 1960.-"
Thus, the fares in effect at the end of 1969 provide like bases for a time-series
comparison of the effects of CAB and PUC regulation under closed entry. This
comparison is presented in table 4, and it indicates how PSA and the PUC, on
the one hand, and the interstate airlines and the CAB, on the other hand,
responded to such factors as inflation, airport security expenses and increases
in petroleum prices, all under similar regulatory conditions.
TABLE 4.-INCREASES IN COACH FARES FROM LATE 1969 TO EARLY 1975: PSA COMPARED WITH CAB-AUTHORIZED
FARES FOR THREE MAJOR CALIFORNIA CITY-PAIRS
One-way jet coach faresi
CAB-authorized
Percent increase
City-pairs
Dec. 3,
1969
Jan. 29,
1975
Oct. 1,
1969
Nov. 15,
1974
PSA
CAB-
authorized
LAX/BUR-SFO/OAK
$15.00
$19.21
9.95
26.85
$30. 00
15.00
36.00
$39.23
20.71
45.71
28.1
34.8
28.2
LAX/BUR-SAN
7.38
SAN-SFO/OAK
20.95
27.0
1 Round-trip fares equal twice the one-way fares for all carriers.
Sources: Table 3. CAB order 69-9-68 (Sept. 12, 1969). PUC decision 76447 (Nov. 18, 1969).
The similarities between the percentage increases for the two categories of
carriers in these three city-pairs are indeed remarkable. For the first time since
1949, percentage increases in PSA's fares have been almost the same as those
for CAB-authorized coach fares. This is certainly not conclusive evidence that
PSA's pricing practices under the new PUC regulator environment will be about
the same as that of the CAB-regulated airlines, but it is consistent with the
hypothesis that similar regulation does have similar effects on airline fares.
Actually, it is much too soon to draw firm conclusions on this matter. It takes
many years for the effects of an important change such as the imposition of
entry control to work its way through the economy, but there appears to be
a start in this direction.
Overall, the California experience provides strong evidence that one major
accomplishment of CAB regulation has been to increase airline fares by large
amounts. Since the CAB establishes fares on a nationwide basis, the sizes of
these increases would vary with conditions in individual city-pairs. For short-
haul city-pairs, present coach fares are probably between 40 to 70 percent higher
than they would be without CAB regulation — with the larger differences oc-
curring in those city-pairs with the higher traflSc densities."' Thus, without CAB-
regulation, current Boston-New York and. New York-Washington one-way coach
fares would probably be around $15 and $17 vs. the actual fares of $25.93 and
$27.78." In medium-haul city-pairs (between, say, 250 and 1,000 miles), it appears
that CAB-authorized coach fares range from 75 to over 100 percent higher than
non-regulated fares. This means, for example, that absent regulation the Boston-
Washington coach fare would be around $21 instead of the current $41.67."^
«Id. Also, CAB orders 69-2-98 (February 19. 1969) and 69-9-68 (September 12, 1969).
The first of these orders increased coach fares by $2 in city-pairs oOO miles or less apart,
and by .$1 in city-pairs between iiOl and 1,800 miles apart. The second order established
a fare structure based on a .$9 terminal charge and various line-haul charges starting at
60 per mile for the first 500 miles.
20 Id. at 285. Also, PUC decisions 75899 (July S, 1969) and 76447 (November 18.
1969). Together, these two decisions yielded fare increases of 11.1, 16.2 and 5.5 percent
in the three major city-pairs.
^ In addition to the Los -Vngeles-San Diego data, the fare experience in eight minor
California city-pairs from 1951 to 1965 also support this conclusion. Id. at 115-3.3.
22 1 Official Airline Guide 14.3, 150, 716 (North American Edition, .Tanuary 1, 1975).
The distances between these two city-pairs are: B0S-NYC = 191 miles, NYC-DCA = 215
miles. CAB, supra, note 1, at 4.33.
23 Id. Boston and Washington are 406 miles apart.
470
Finally, extrapolating the California evidence in conjunction with our knowledge
that average costs of airline operations decrease with distance, leads to the
conclusion that CAB-authorized fares in the transcontinental city-pairs are also
around 100 percent higher than they would be without regulation. That is,
rather than paying ,$187.04 (plus tax) to Hy from Boston to Los Angeles, one
would pay only $D0 to $100 for unregulated service."^
Differences of these magnitudes are startling to say the least, and they lead
to the question of whether or not the California experience may be due to unique
factors other than regulation. For example, it is correctly pointed out that Cali-
fornia weather is milder than other parts of the country and that the three major
city-pairs have extremely heavy traffic volumes. These arguments overlook the
fact that the weather is also good in both Los Angeles and, say, I'hoenix (358
miles apart) yet the high, allegedly cost-based, CAB-authorized coach fares have
applied in that city pair rather than the lower California-type fares. Indeed, the
Los Angeles-Phoenix coach fares have been identical to those in the Chicagio-
Minneapolis/St. Paul city -pair (344 miles apart) despite the differences in
weather conditions in these two city-pairs.^ Similarly, if weather is so important,
why isn't a lower fare formula applied to Los Angeles-Miami service than to Los
Angeles-Boston service V
Regarding traffic density, it should be noted that in 1948, the year before the
intrastate carriers inaugurated low-fare service, Boston-Xew York/Xewark was
the largest city pair in the LLS., with Los Angeles/Burbank-San Francisco/Oak-
land being a poor second accounting for about 35 i)ercent fewer true O&D pas-
sengers."'" Yet, as indicated in table 1. efficient intrastate carriers were able to
survive in the then lower-density California city-pairs at much lower fares per
mile than the CAB authorized for the major East Coast city-pairs and, remem-
ber, this was well before the days of airport congestion. True, due in part to the
availability of low fares, by 1972 the Los Angeles-San Francisco "area" pair
accounted for 5.6 million on-line O&D passengers compai-ed with 2.1 million true
()&D passengers in the Boston-Xew York "area" pair.-' It should be recognized,
however, that the 5.6 million Los Angeles-San Francisco passengers were ac-
commodated through eight airports and 13 separate airport pairs, compared with
only four airports and three airport pairs for Boston-Xew York, and that low
intrastate fares were available in all of the Los Angeles-San Franci.seo airport
pairs even though four of them each accounted for less than 200,000 O&D pas-
sengers in 1972.^ Xo. possible cost differences due to weather and traffic densities
come nowhere near accounting for the differences of 100 percent or more that
have exi.sted between PSA's fares and those authorized by the CAB.
Fortunately, supplementary evidence regarding the effects of regulation on
airline fares is available from the Texas intrastate experience, Canadian regu-
lation, and from U.S. military airlift procurement. Brief summaries of some of
this evidence are presented in the following sections.
Evidence from Texas
On February 20, 1968, the Texas Aeronautics Commission (TAC) issued a
certificate of public convenience and necessity to Southwest Airlines authorizing
it to provide scheduled intrastate service l)etween Dallas/Ft. Worth, Houston
and San Antonio.^ Immediately thereafter, Braniff Airways and Texas Interna-
tional Airlines began over three years of litigation in the Texas and U.S. Federal
courts, the CAB and the TAC to prevent Southwest from inaugurating service.
"In April 1967. World Airways (a supplemental carrier) applied to the C\B for
authority to operate scheduled nonstop service between California and the East Coast at
a "thrift service" fare of .$79.50 compared with the then existing coach fare of .?145.10. Sfi
Aviation Week and Space Technology 27 (May 1, 1967). Similarly, applying the CAB's
recently approved low-season seat-mile rate for charter operations with aircraft having
more than 229 seats (2.40 per seat-mile) and assuming a 6.")-percent load factor, yields
a $96.00 one-way fare between Boston and Los Angeles (2,600 miles apart). CAB regula-
tion PS-.57 (October 18. 1974) at 17.
-•■'' See, for example, supra, note 22, at 201. r)42. Note that the difference between origin
and destination traffic for these two citv-pairs is not great. In 1972, ORD-MSP = -: "6,000
passeneers while LAX-PHX = .S4.S.000. CAB, sunra, note 1, at 43.3.
=«BOS-lSrYC/EWR = .-)50,.500 passengers, LAX/BUR/LGB-SFO/OAK = 297,600. CAB, Air-
line Traffic Survey (March and September 194S).
2" CAB, supra, note 1, at 4.3.S ; and PTTC, Intrastate Origin-Destination Passengers of
Scheduled Air Carriers. Quarter and Twelve Months Ended December .31, 1971 and 1972,
2 (Renort 1511.33, 1974).
^ PT'C. sunra, note 27, at 4-6. Also, see appendix B.
-"Thomson & INIcKinnon Auchincloss, Inc., Prospectus, Southwest Airlines Co., 8 (.Tune 8,
1971). Southwest was incorporated on :\Iarch 9, 1967 (Southwest Airlines annual report,
note 1, 1971).
471
As a result of this. Southwest was luiable to inaugurate service until June 18,
1971, and it was forced to incur legal expenses ()f well over $500,000 before it
even began operations.'" While it is not known whether TAC regulation will
effectively close entry within Texas, the problems Southwest had makes it ap-
pear that future entry will be restricted. Thus, the regulatory structure within
Texas is probably more like the current I'UC and CAB situations than the open-
entry environment of California prior to 1965.
Initially, Southwest offered a .$20 one-way price (fare plus 8 percent trans-
portation tax) between IMllas-Houston (222 miles) and Dallas-San Antonio
(253 miles) compared with the CAB-authorized .jet cdach prices of .$27 and $28,
respectively.''^ Branift" and Texas International immediately matched these prices
for their intrastate passengers, but not for iiassengers originating or terminating
outside of Texas and thus subject to CAB regulation. The full price histories
for these two city-pairs through December 1974 are given in appendix A. This
appendix .shows that, .starting on .Tuly 9. 1972, Southwest raised its day-coach
price to $26 (almo.st back to the earlier CAB-authorized level). Braniff and
Texas International quickly matched this higher price and, subsequently, re-
adopted CAB-authorized fares which resulted in the three $1 to $2 price in-
creases shown in the appendix. The most interesting developments during this
period were Southwest's introduction of a $13 one-way, day-coach price between
Dallas and San Antonio on .lanuary 22, 1973, followed by Braniff's introduction
of a retaliatory $13 price between Dallas and Hou.ston's Hobby Airport for a 60-
day period starting February 1, 1973.
It is clear that the entry of an intrastate carrier did serve to lower prices paid
by passengers in these city-pairs. This was especially true between Dallas and
San Antonio where Southwest relied on its lower price to make up for its in-
frequent service (it scheduled 48 to 66 weekly one-way trips compared with
Braniff's 210 to 260 weekly trips)."- In this city-pair, Braniff's regular day-coach
prices were 93 to 115 percent higher than Southwest's — cpiite similar to the Cali-
fornia experience. In the Dallas-Houston city-pair, in contrast. Southwest pro-
vided much moie fre<pient service and operated to and from convenient Love
Field in Dallas and Hobby Airport in Houston. As a result, it was able to attract
passengers at relatively high weekday prices that were almost equal to the CAB-
authorized prices. It did, however, initiate low weekend and night-coach prices
of $13 and $15 which resulted in CAB-authorize<l coach fares being 87 to 108
percent higher during evenings and weekends.
On October 1, 1974, Southwest modified its Dallas-Houston price structure by
decreasing the day-coach price from $28 to ,$25, and it then extended this price
stnicture to its other two city pairs. Table 5 summarizes these new prices and
compares them with those of the CAB-regulated airlines following the CAB-
authorized fare increase of November 15, 1974.
TABLE 5.-S0UTHWEST'S COACH FARES COMPARED WITH CAB-AUTHORIZED COACH FARES FOR THREE
MAJOR TEXAS CITY-PAIRS, NOV. 15, 1974
One-way coach prices'
CAB-authorized percent
greater than southwest
Night/ CAB-
City-pairs Day weekend 2 authorized 3 Day
DAL-HOU
$25
$15
15
15
$31. 37
32.37
29.37
25.5
29.5
17.5
109.1
DAL-SAT
25
115 8
HOU-SAT
25
95.8
1 Fare plus 8 percent Federal transportation tax.
2 Effective after 7 p.m. on weekdays and all day on Saturdays and Sundays.
2 Includes the 37 cents airport security surcharge. Southwest does not assess a security surcharge.
Sources: 1 "Official Airline G;iide" 7, 280, 28P, 469 (North American Edition, Dec. 1, 1974). Richard Robertson, Sales
Representative, Southwest Airlines, telephone conversation (Jan. 23, 1975)
™ William A. Jordan. Some Predatory Practices Under Government Regulation?, 22-24
(processed. .January 107.">). Southwest Airlines, supra, note 29.
"^ See appendix A. Prices (fare.s plus S-percent transportation tax) are used in this
analysis hecause the practice of rounding prices to the nearest whole dollar simpli^^es the
data. Pares were used in the California analysis because the transportation tax changed
from !.■) to 10 to 5 percent at various times after 1949 before being set at the current
S-percent rate on Julv 1, 1970.
==-' William A. Jordan, supra, note 28, at 31-32.
472
Day-coach price differeuces of 17.5 to 29.5 percent are not as spectacular as
the differences of over 100 percent tliat were available between Dallas and San
Antonio during most of 1973 and 1974, but it should be noted that the most
iiuiiorraut city-pairs had the largest differences and savings of $6.37 and $7.37
per 4.1- (ir .".(l-minute trip are significant to many individuals. Travelers on evenings
and weekends are, of course, benefited by an additional $10, and the price
differences are again around 100 percent.
Certainly, by simply allowing this single intrastate carrier to enter and pro-
vide service, the TAC has benefited many Texas travelers, as well as Southwest,'^
at the expense of the CAB-regulated airlines. Again, tbe key factor was entry.
The most effective way for a new firm to carve out a viable share of a market
is to offer comparable service at lower prices. Only if more efficient or innovative
firms are allowed to enter does such economically useful rivalry occur. It remains
to be seen whether or not the TAC will allow still other new airlines to test their
mettle in this manner. If it does, one can predict a continuation or an increase
in the price differences shown in table 5. If, on the other hand, the TAC closes
entry to potential Texas intrastate carriers, one can predict that at most the
present differences will persist, and it seems more likely that the percentage
differences will decrease. In any case, by allowing Sonthwest to inaugurate
service, the TAC has provided additional evidence that CAB regulation does
serve to increase airline fares.
Evidence from Canada
While there have been dift'erenees in administrative procedures and in relative
independence from various branches of government, the regulatory powers of the
Air Transport Committee (ATC) of the Canadian Transport Commission (and its
predecessor, the Air Transport Board) have been quite similar to those of the
CAB.^* Since 1938, all Canadian airlines (including intra provincial and the
smallest of fixed-base or bush operators) have been subject to regulatory con-
trol over entry and exit, prices and service quality.'"' Furthermore, the largest
Canadian airfine, Air Canada, is a Cro\^'n (government-owned) corporation
\\hieh has received special consideration and protection from both the Canadian
I'arliament and the regulatory Cdiiimissions.'"'
Montreal-Toronto is the city-pair witliin Canada most like the major East
Coast and West Coast city-pairs in the U.S. Montreal and Toronto are 322 mile"
apart and in 1972 a total of 758,520 origin and destination passengers flew between
them."' This traflic volume resulted in it being ranked about eleventh in total
size on the North American continent in 1972 and, overall, it is clear that
Montreal-Toronto is a high-volume, medium-haul city-pair.'*' Among U.S. airport
pairs of about the same traflic density and distance are Los Angeles-Oakland
(712,720 O&D passengers in 1972 and a distance of 339 miles), Los Angeles-San
Jose (666,312 passengers and 309 miles), and Boston- Washington (570,000
passengers and 399 miles).® A common fare has long been in effect between Los
Angeles/Burbank and San Francisco/Oakland/San Jose, and it happens that the
simple average of the resulting six airport-to-airport mileages is 322 miles — the
same as the Montreal-Toronto mileage."' Tliis mih'u.m' similarity facilitates direct
comparisons between fares available in these two (■ity-i»airs.
If relatively complete regulation (including entry control) has similar effects
on increasing fares, one would expect the regulated coach fares between Montreal
and Toronto in 1965 to be about the same as the CAB-authorized coach fares
between Los Angeles and San Francisco and, to be much higher than PSA's fares
which had developed in a relatively unregulated environment. Furthermore, one
•" DnrinfT the twelve iiiiiiitlis ended September .>(). 1974. Southwest earned a net income
of .i;2.1 million on total revenues of .$l.S.l million. Southwest Airlines, Annual Keport
(107.S) : and Third (Quarter Uejiort (O-months ended September .-Ml. i;»74).
■-'William A. .Jordan, Comparisons of American and Canadian Airline Keffulation 2-10
(a paper presented at tbe Societ.v of Government Economists sessions. Allied Social
Sciences Association National Convention, December I'S, 1!)72).
-Id. at:!-4.
■"■■Id. at 4. Trans Canada Airlines Act. Stat, Can. c 4:! (19;!7).
■■^ Statistics C.inida. .\viation Statistics C.'ii tr.'-Servicc Imlletin 1-lL' (April 197;^). Also,
1 Official Airline (Jni.le s (.Xorth .\nierican lOdition. October If), 1974).
•''' Comi);ire the ,."is.,-,iii) .Montr.MJ-Toronto (i&I) ii.isseuKcrs with those listed in appendix
B. Note, interairport niileapres differ sliirlitlv from intercitv mileages.
^ rue, supra, note 27, at 4. Also. CAB, .supra, note 1, at 4:>;!.
^o William A. Jordan, supra, note 1, at 305.
473
would expect that increases in regulated Montreal-Toronto coach fares from
1965 to early 1975 would be similar to the increases in CAB-authorized fares in
the California city-pair. In contrast, PSA's fare increase for this period should be
somewhat less since it was not clear until 1969 that entry into major California
city-pairs had been closed by PUC regulation. Table 6 presents the fare data that
test these hypotheses.
TABLE 6.-C01V1PARIS0N OF PSA, CAB-AUTHORIZED AND CANADIAN COACH FARES i
LOS ANGELES-SAN FRANCISCO VS. MONTREAL-TORONTO
JUNE 1965 AND JAN. 29, 1975
Coach fares i
Percent increase June
Jan. 1975
1965-
June 1965
Jan. 29, 1975
(Jet)
Propeller-
Jet
City-pair and fare source
Propeller
Jet
Jet-Jet
LAX/BUR-SFO/OAK/SJC:
PSA .__
CAB-authorized
$11.43
21.70
23.00
21.30
$13.50
23.70
23.00
21.30
$19.21
39.23
37.00
37.37
68.1
80.8
60.9
75.4
42.3
65.5
Montreal-Toronto ATC/ATB-authorized :
(Can$)....
(US$)2
60.9
75.4
1 Fares are used rather than prices (fares plus taxes) because of the different transportation taxes in the 2 countries.
-' In 1965, the official exchange rate was $0,925 U.S.=$1 Canadian. In January 1975, it was about $1.01 U.S.=$1
Canadian.
Sources: Tables 2 and 3, Official Airline Guide(quick reference North American edition, June 1, 1965, and North American
edition, Jan. 15, 1975).
Comparisons of these data are complicated somewhat by the fact that Canada
has never had a higher fare for jet service than for service provided on propeller
aircraft, and by fluctuations in the exchange rates between the two currencies.
Regardless of these factors, it is clear that regulated Canadian fares have been
very similar to the CAB-authorized fares and have been much higher than PSA's
fares both in 1965 and 1975. In 1965, about three quarters of all nonstop flights
between Montreal and Toronto were provided by propeller aircraft (Viscounts
and Vanguards)" and the U.S. dollar fare (paid by residents of the U.S.) was
almost identical to the CAB-authorized propeller fare in Los Angeles-San
Francisco. In January 1975. when only jet service was available in both city-
pairs, a U.S. resident paid just $1.86 (4.7 percent) less to fly between Montreal
and Toronto than he paid for interstate coach service over the same distance in
the U.S.
In terms of fare increases, PSA's very low propeller fare resulted in an increase
from its propeller fare in 1965 to jet fares effective January 29, 1975 that is
similar to the Canadian experience and somewhat lower than the CAB-authorized
fare increase. However, when comparing fares for jet service in both 1965 and
1975, PSA's fare increase is much smaller than both the CAB-authorized fare
increase and the Canadian experience (whether based on Canadian or U S
dollars). Indeed, in this case CAB and ATC/ATB regulation had very similar
effects. Once more the evidence indicates that CAB-type regulation results in
higher fares.
Evidence from military airlift
Prior to 1960, the Military Air Transport Service (now the Military Airlift
Command) contracted for planeload movements of passengers and cargo on a
competitive bid basis open to any carrier meeting the safetv and operational
standards established by the Federal Aviation Agencv (now the Federal Aviation
Administration). These carriers included the CAB-certificated airlines (trunk,
international, local service, territorial, all-cargo and supplemental) plus the so-
called 'part i.y carriers composed of operators of large aircraft who contracted
their services to a single purchaser and thus did not engage in common carriage.
As defined by the Federal Aviation Act of 195,S, these part 45 carriers were
operating in air commerce rather than air transportation. As a result, they did
"21 Official Airline Guide C-9 to C-IS (Nortli American edition, June 1965).
474
not have to have CAB-issued certificates of public convenience and necessity and
the CAB had no control over their activities so long as they limited their activities
to air commerce, including military airlift charters/"
Because part 45 carriers could participate on Military Air Transport Service
(MATS) contract operations without having to file tariffs or otherwise comply
with CAB regulations, the CAB found it infeasible to control entry by certificated
airlines into the military procurement market and to regulate rates. Thus, it gave
blanket exemptions to all certificated airlines to participate in this activity at
rates through the competitive bidding process/' This resulted in a monopsonistic
market structure with one large buyer (MATS) and many independent sellers.
Not surprisingly, military charter rates fell to low levels.
The certificated airlines and the CAB found this situation to be undesirable
and in 1958, when the annual growth rate of scheduled passenger traffic abruptly
fell from 15 to zero percent," they prevailed upon I'resident Eisenhower to direct
Department of Defense to undertake a study of the military role performed by
MATS. This study resulted in a report completed in early 1900 entitled, "The Role
of Military Air Transport Service in Peace and War." ^^ This report recommended
nine courses of action, including action number five which proposed the procure-
ment of commercial airlift be changed from competitive bidding by all FAA quali-
fied carriers to the use of only CAB-certificated airlines thereby excluding part 45
carriers) under tariff rates or through negotiated contracts.*® The courses of
action were approved by the President on February 9, I960,*' and the DOD, the
Air Force and MATS moved to implement action number five during the following
months. Interim procurement procedures consistent with action number five were
adopted for airlift contracts for the three-month period starting October 1,
I960.*'
The DOD's exclusion of part 45 carriers gave the CAB substantial power over
military airlift procurement and the Board was quick to implement its new
power. On June 24, 1960, the CAB Chairman advised the DOD that blanket exemp-
tions would no longer be issued to certificated airlines allowing them to partici-
pate in military contracts. Instead, only individual exemptions would be given
to each airline whose contract complied with CAB policies.*" Thus, between
August 1959 (when the last competitive-bid contracts were signed for service
from October 1, 1959 to September 30, 1960) and mid-1960, entry into military
airlift operations was abruptly closed to all except those CAB-regulated airlines
complying with CAB policies. The effects on contract rates of this fundamental
change soon became ai)parent.
On August 5, 1960. the CAB Chairman advised the DOD that exemptions would
not be granted to CAB-regulated carriers if round-trip contract rates were less
than 2.9 cents per passenger-mile on a year round basis "[f]or plane load traffic
in transatlantic and transpacific operations equivalent to economy type serv-
ice. . . ." °° Since only passenger contracts were planned at that time, this single
rate was suflficient. There followed considerable discussion and correspondence
between the DOD and CAB concerning rates, and it was not until February 10,
1961, that final rates were established for the remaining categories of inter-
national traffic — to become effective no later than May 1, 1961. These initial
CAB-authorized rates are summarized in table 7 and compared with tlie success-
ful competitive-bid rates of August 4, 1959 — the last nonregulated rates utilized
by MATS.
«Spc. 101(3). (4). (10). (20). (21), (.".2), and (.33). 72 Stat 737. Also, 72 Stat 7o4,
72 Stnt 758. and 72 Stat 760. ^ _ ^
"Whitney Gillilland. CAB Chairman, letter to Thomas S. Gates, Jr., Secretary of Defense
(June 24, 1960).
*'^ CAB, supra, note 1, at 24. ^ ^^
*5DOD. The Role of Military Air Transport Service in Peace and War, February 1960.
4« Id. at .5-6.
«■ Robert IT. Charles, Assistant Secretary of the -\ir Force, Address before the Aero
Clnb of Washinston, March 26, 196S.
^MIATS, Histoiv of the Implementation of Course of Action No. 5: The Role of MATS
in Peace and War, Jan. 1, 1960-June 30, 1961 173-76, March 1962.
*» \Vhitnev Gi'lilland. snnra. note 43.
BO Whitney Gillilland, CAB Chairman, letter to Thomas S. Gates, Jr., Secretary of Defense
(August 5, 1960).
475
TABLE 7.-C0MPARIS0N OF COMPETITIVE-BID RATES WITH CAB-AUTHORIZED RATES,
CATEGORY B, INTERNATIONAL OPERATIONS
AUG. 4, 1959 VS. FEB. 10, 1961
Rate.<; CAB-
— — ■ authorized
percent
greater than
competitive-
Service and area Competitive-bid Aug. 4, 1959 CAB-authorized Feb. 10, 1961 bid
Round-trip passenger;
Atlantic 2.08 cents per pax-mile ' 2.9 cents per pax-mile... 39 4
Pacific 1.89' 2.9 2 53 4
One-way passenger:
Atlantic 4.2 cents per pax-mile s
Pacific 4.2 2,3
Round-trip cargo:
Atlantic 13.75 cents per ton-mile'
Pacific 13.752,3
One-way cargo:
Atlantic 21.89 cents per ton-mile ■ 22.5 cents per ton-mile 3 2.8
Pacific 21.351 22.52,3 5.4
Round-trip convertible: <
Atlantic:
Passenger 1.70 cents per pax-mile ' 2.9 cents per pax-mile 70.6
Cargo 15.11 cents per ton-mile' 16.5 cents per ton-mile s 9.2
Pacific:
Passenger 2.24 . 2.9^ 29.5
Cargo 16.54 16.52,3 -.5
' Calculated on a weighted average of mileages and traffic for multiple origins and destinations as specified in the invita-
tion for bid.
■ Rates applied to Central Pacific mileages even though flights might actually be operated via North Pacific routings
which were approximately !,000 miles shorter.
3 By letter oated Dec. 5, 1960, the CAB set the following rates to be a basis, effective Mar. 1, 1961, for issuing military
charter exemptions:
Cents
per
pax-
mile
One-way passenger _ 5.2
Round-trip cargo 14. 5
One-way cargo . 27.5
Convertible cargo 19.0
On Feb. 10, 1961, these rates were superseded by those specified in the table to be effective no later than May 1, 1961.
^ Passengers carried one way and cargo the other on a round-trip flight.
Sources: Alan S. Boyd, CAB Chairman, letter to P. B. Taylor, Assistant Secretary of the Air Force (Feb. 10, 1961). Whitney
Gillilland, CAB Chairman, letters to Thomas S. Gates, Secretary of Defense (Aug. 5, 12, 1960, and Dec. 5, 1S60). MAC,
CAB-approved mileage as of Oct. 20, 1967 (n.d.) MAiS, Invitation for Bids 11-626-59-11 and 11-626-59-12 (July 8, 1959),
and Abstract of bids tor these IFBs (Aug. 1, 1959).
Again, the now familiar pattern emerges. The CAB-regulated rates for round-
trip passenger service were 39 and 53 percent higher than the earlier nonregulated
rates for such service, while the regulated rates for passenger legs of convertible
flights were 30 and 71 percent higher than the nonregulated rates. At the same
time, however, the differences in cargo rates were small or nonexistent. One
possible reason for this could have been that about four times the ton-miles of
cargo were moved in fiscal year 1962 than in fiscal year 1960.'^^ Thus, a relatively
low trafllic volume in fiscal year 1960, divided between both the Atlantic and
Pacific, could have resulted in high average costs and thus high comi>etitive-bid
rates. Another rea.son, of course, could have been that MATS and DOD were able
to convince the CAB to adopt relatively low cargo rates. The fact that the CAB
originally set the one-way cargo rate at 27.5 cents per ton-mile (about 28 percent
higher than the competitive-bid rates) lends credence to that possibility.^- But,
=1 In fiscal year 1960, cargo accounted for about $12. .3 million (21. .3 percent) of category
B passenger and cargo revenues totaling .$.58.7 million. In fiscal year 1962, cargo com-
prised .$55.4 million (48.5 percent) of the $114.2 million total. Since cargo rates were
about the same in these two periods, changes in cargo revenues approximate changes in
ton-miles of traffic. (MATS, Historical Background of MATS' Commercial Airlift Opera-
tions, fiscal years 1960-64 12, 14 (n.d.).)
=2 Whitney Gillilland, CAB Chairman, letter to Thomas S. Gates, Secretary of Defense
(Dec. 5, 1960).
476
then, both these and other reasons may be applicable.
It is only proper to point out that the CAB lowered its approved rates starting
in 1962 and continuing to 1967-68, before inflationary pressures reversed the
trend. Round-trip passenger rates, for example, fell to 1.75 cents per passenger-
mile for standard jets and 1.66 cents per passenger-mile for stretched jets.°'' AVith
some adjustments for the relatively low inflation of that S-year period, it can be
seen that these rates are significantly lower than the competitive-bid rates of
1959. It should also be recognized, however, that these rates were achieved with
unusually high trafiic flows over extremely long-hauls to Vietnam and other
points in the Pacific, and that jet aircraft have experienced substantially lower
operating costs than the piston aircraft that provided most contract services prior
to the early 1960's. With regards to this latter point, it should also be noted that
CAB-approved rates for round-trip passenger service on piston aircraft have never
fallen below 2.55 cents per passenger-mile.^*
Summary
It is remarkable how consistent the evidence from these four cases has been.
The large amount of cross-sectional evidence from the California experience is
supported by similar evidence from Texas and Canada, as well as by time-series
evidence from the most recent years in California, from Canada, and from mili-
tary airlift procurement. Where entry has been possible and airlines have been
able to introduce new or lower fares without regulatory constraint, airline fares
have been low. Where regulation has served to close entry and fares have been
controlled, fares have been much higher. Indeed, in most cases regulated fares
have been 50 percent or more above nonregulated fares, and differences of over
100 percent have been common.
These consistently large fare differences are not explained by factors such as
whether, airport congestion, trafiic density, and so forth. Of course, cold and snow
for 5 months or so each year increase the resources required for ground handling ;
and fog, snow and rain delay flights at various times, as does aii-port congestion.
The.se factors all increase costs somewhat, but not by 50 to 100 percent over costs
in nonregulated city -pairs which also experience weather and congestion prob-
lems. However, should weather and airport congestion influence costs appreciably
in particular interstate city-pairs, and if CAB-authorized fares are supposed to
lie cost based, why aren't CAB-authorized fares lower for city-pairs where
weather is generally good and airports are free of congestion? The fact is that
these cost differences are relatively small and thus it is infeasible to adjust the
present rigid fare structure to reflect them.
Tratfic density is certainly a relevant factor in average costs per passenger-
mile and thus fares. This was reflected in the higher fares charged by the intra-
state carriers in minor California city-pairs as opposed to the major city-pairs.
But beyond a certain threshold level of, say, 100,000 true O&D passengers per
year, differences in costs per passenger-mile are sniall.^" Here again, it should
be noted that the CAB makes no allowances for trafiic density in its basic fare
formula.
In the new cost-based coach-fare formula to be implemented on April 29, 1975,
the CAB has established a terminal charge of $13.85 and various line-haul charges
starting at 7.79 cents per passenger-mile for the first 500 miles.'"' Implicit in this
"cost-based" formula is the belief that it costs the average CAB-regulated airline
$13.85 merely to attract a passenger, process his reservation and issue a ticket,
enplane him, takeoff and then immediately land at the same or an adjacent air-
port, and then deplane the passenger. All this regardless of whether the airport
is large, small, congested, has bad weather, or whatever. In sharp contrast PSA
will do all this plus fly a passenger 159 miles (Fresno-San Francisco) for $12.73,
that is, for $1.12 less than the CAB's terminal charge.^" Similarly, in Texas, South-
^^ CAB, supra, note 1, at 597-99.
■'■■'Id. The current round-trip passenger rate for jet aircraft is 2.84S cents per passenger-
mile. CAB press release 7.5-1.") (.Tan. 17, 197.5).
■"•"The threshold traffic level for a city-nair depends on many related factors such as
distance, aircraft size required to operate efficiently over that distance, existence of alterna-
tive transportation services, the nuniher of other fiisihts servinp: each airport in the city-
pair, the amount of complementary conneetin? traffic, and so on. 100,000 true O&D
passengers ner year would yield an average of 274 per day which, alone, would provide a
fiO-percent load factor for four one-way flights provided with 115-seat aircraft. In 1972,
the 100th largest city-pair was New York-Norfolk with 186,000 true O&I) passengers
(annendix B).
^ CAB order 74-12-109 (Dec. 27, 1974>.
S'PUC decisions 83814 (Dec. 10, 1973), 83918 (Dec. 30, 1974) and 83939 (Dec. 30,
1974).
477
west Airlines will provide terminal services and then fly a weekend or night-
coach passenger from 19.: to 253 miles for ,$13.W) ($15.00 including tax), almost
identical to the alleged cost of a CAB-regulated airline's brief "sightseeing" flight.
There are indeed fundamental differences between CAB-regulated airlines and
the successful intrastate carriers ; and these difl'erences stem from regulation
which serves to close entry, provide a mechanism through which agreements can
be reached regarding fares and other matters, and facilitate the low-cost (to
the airlines) enforcement of such agreements.
CAB REGULATION HAS DECREASED AIRLINE EFFICIENCY
If the fares and rates of the certified airlines have been increased so much
by CAB regulation, why haven't these airlines made consistently large profits?
Of course, at various times since 1938, most of the trunk carriers have enjoyed
substantial profits and a few of them, such as Delta, Northwest and Western,
have had quite good and relatively consistent profit records.'^ On the whole,
however, the profits of the entire regulated industry have been less than spec-
tacular and certainly lower than would be expected from the higher fares re-
sulting from regulation.
The fundamental reason for the surprisingly poor profit performance of the
certificated airlines is that, while increasing airline prices, CAB regulation has
also greatly increased airline costs. Three of the major sources of these higher
costs appear to be: 1) imperfections in CAB regulation which promote intense
service-quality (rather than price) rivalry among the airlines; 2) regulatory
entry restrictions which require each of the relatively few certificated airlines to
provide a diversity of services ini3tead of being able to specialize in an opera-
tionally homogeneous service pattern; and 3) the assistance that entry restric-
tions give monopolistic or oligopolistic airline suppliers in capturing larger
portions of the airlines' gains by increasing the prices the airlines must pay for
their inputs (especially labor). These three factors — carrier rivalry, decreased
specialization, and increased input prices — will be examined below.
Candler rivalry
While the CAB has full discretionary power over entry and exit, under the
Federal Aviation Act of 1958 (as well "as the earlier 1938 act) it has had only
limited direct power over the quality of service provided by the airlines.^." In
addition, it has been slow to influence service quality through indirect means
such as promoting capacity agreements and conditioning its approval of fares
on modifications of service qualitj^.™ Thus, CAB regulation has been asymmetric
or "imperfect," with complete control in some areas and little control in other
areas.
The effects of this asymmetric regulation have been amplified by the Board's
failure to allocate predetermined shares of industry revenues and profits to each
carrier. Speciticnlly, it has authorized two or more airlines to operate over
cA-ery major interstate route and between every major city-pair without assign-
ing traffic shares in each city-pair. Therefore, great rivalry has developed between
the certificated carriers as they seek to retain or increase their traffic shares.*^
Since CAB regulation requires cooperation and agreement in setting prices, this
rivalry has long been channeled toward the area of service quality. Operationally,
this has meant that each carrier in a miilti-carrier city-pair has endeavored to
operate more frequent flights with the fastest, most modern and comfortable
aircraft, while providing elaborate in-flight services and superior ground services.
The following analysis indicates some of the effects that such service-quality
rivalry can have on the costs of regulated airlines.
An airline's most important physical asset is its aircraft and related equip-
ment. As of June 30, 1974, flight equipment accounted for over 84 percent of the
nondepreciated value of the total operating property and equipment of all CAB-
certificated route air carriers."- Obviously, if CAB-induced service-quality rivalry
^'' CAB, supra, note 1. at 411.
^"William A. Jordan, supra, note 1, at 2-4.
""■William A. Jordan. Airline Capacity Agreements: Correcting a Regulatory Imper-
fection. .39 Journal of Air Law and Commerce 19.3-205 (snrinR 197.3).
"1 In addition to the effects of multi-carrier authorizations on service-quality rivalry,
there is no indication that the CAB has made route awards to the carrierfs) able to
provide the optimal level and quality of service at the lowest marginal cost. Unless low-
cost carriers are authorized to provide new services, the total and average costs of air-
line onerations are increased over minimum attainable levels.
«=CAB, Air Carrier Financial Statistics 53 (June 1974).
478
results in excessive numbers of aircraft being purcliased and then being under-
utilized, the costs of regulated airline operations will be increased. Evidence on
this point can be obtained by comparing the aircraft utilization by the CAB-
regulated trunk carriers with that of the California intrastate carriers between
1949 and 19G5. The California carriers could, of course, undertake rivalry both
by reducing fares and by increasing service quality, while the regulated trunk
carriers were largely constrained to service-quality rivalry. Not surprisingly, the
record of this period demonstrates that price rivalry was indeed very important
within California in sharp contrast to the emphasis on service-quality rivalry
by the CAB-regulated airlines."''
The following four measures can be used to determine the overall intensity
with which aircraft are utilized :
1. The average number of revenue hours per day that each aircraft is operated
(a measure of airframe utilization).
2. The number of seats installed in each aircraft type for a given class of
service (indicating the extent to which the aircraft's interior is utilized).
3. The average passenger load factor (which measures the degree to which
the installed seats are utilized).
4. The total number of years each aircraft is operated (measuring the length
of time this resource is utilized, as well as indicating the flow of resources re-
quired to maintain some given stock of aircraft over time).
It happens that the successful California intrastate carriers operated their
aircraft about the same number of hours per day as the trunk carriers (and some-
what more than the local service carriers), so there is little difference in effi-
ciency in this respect, unless detailed adjustments are made to compensate for the
intrastate carriers' shorter stage lengths."* yigniflcant differences did exist, how-
ever, in the number of seats installed per aircraft, in passenger load factors, and
in aircraft life.
Two factors are relevant with regard to numbers of seats installed. First, no
intrastate carrier operated first-class service from 1949 to 1965 and, therefore,
never provided the low-density seating associated with that high-(iuality si'rvice.
Second, when comparing identical aircraft types in all-coach coiifi.mirations, one
finds that the intrastate carriers generally managed to install more seats. I'sually
the differences were in the order of 5 to 10 percent, but there was one case of a
24 percent increase and a few others with differences of only 1, 2 or 3 percent.""'
Combined, these two factors have resulted in the intrastate carriers utilizing
their aircraft appreciably more than the CAB-regulated airlines, simply by put-
ting more seats in each aircraft.
Even with more seats per aircraft, the California intrastate carriers usually
managed to fill an appreciably larger percentage of them and thus have higher
coach load factors than the certificated airlines. The exceptions all occurred
between 1949 and 19.53 when the trunk carriers' coach service was very limited
and was mainly provided in long-haul city-pairs while, the intrastate carriers
operated only in short-haul city-pairs and were experiencing their initial period
of extensive entry and exit (with failing carriers having low-load factors). For
that five-year period the trunk carriers' average coach load factor was 73.9
percent compared with 69.8 percent for the intrastate carriers. In every .subse-
quent year, howevei-, the California intrastate carriers' annual average load
factor exceeded the coach load factor of the trunk carriers by amounts ranging
from 1.0 percentage point in 1954 to 17.9 percentage points in 1963. From 1955
through 1964. the annual average load factor for all intrastate carriers com-
bined never fell below 70 percent and it reached a high of 80.6 iiercent in 1957.
Their 12-year weighted average load factor was 71.2 percent compared with
only 59.1 percent for the trunk carriers' coach operation."" Some might argue
that these differences resulted from the high tratfic densities in the three major
California city pairs. But a detailed comparison of the scheduling practices of
the two carrier groups in those city pairs demonstrates that the successful
intrastate carriers' higher load factors were due to management decisions.
Specifically, the intrastate carriers' adjusted their .schedules to conform more
closely with traffic fluctuations than did the trunk carriers."'^
«3 William A. Jordan, supra, note 1, at .34-72.
«* Tfl. at 197-99.
^^ Tfl. at 199-201.
«« Id. at 200-.'?.
67 Id. at 203-9.
479
Finally, during much of this period the California intrastate carriers mainly
operated older, obsolescent aircraft that they purchased from the trunk car-
riers or from governments surplus stocks. Thus, they served to extend the pro-
ductive lives of these aircraft, thereby increasing their utilization and economic
efficiency. This increased efficiency was reflected in the low prices the intrastate
carriers paid for their aircraft which, in turn, served to lower their costs. Had
the CAB-regulated airlines been allowed to adopt prices lower than those
authorized by the CAB, they too could have used such aircraft in low-fare serv-
ice, but so long as price rivalry was prevented by regulation it was desirable
for the trunk carriers to concentrate on high-quality service and thus retire their
aircraft relatively early.^
The above experience is what happened with piston-powered aircraft through
the 1950s and into the early 1960s. The turbine-powered aircraft innovation was
different in that these aircraft provided a happy combination of lower operating
costs and superior service quality. This indicates that such aircraft would have
been adopted quite early by all airlines regardless of regulation. Not surpris-
ingly, PSA inaugurated turbine-powered Electra service less than eleven months
after the first trunk carrier, and it adopted the medium-range Boeing 727-100
fifteen months after that aircraft first flew in scheduled service.^" It was those
aircraft that provided somewhat higher service quality at higher costs (such as
the DC-7, the L-1649) that were fathered by CAB-regulation and which would
probably not have been developed without such regulation.
The implications of these differences in aircraft utilization can be illustrated
by the following example. The trunk carriers' 1973 system load factor was 52.4
percent and, with the operational adjustments related to the fuel crisis, it rose
to about 56 percent in 1974.™ Also, the service life of a turbojet aircraft is com-
monly thought to be around 14 years. Now, the California exiierience indicates
70 percent load factors are feasible without regulation and that aircraft with
low operating costs would have longer lives without regulation than with regu-
lation. A 70-percent load factor is 25 percent higher than the 56-percent load
factor of 1974 (and 34 percent above the 52.4-percent load factor in 1973), and
applying a similar 25-percent extension to a 14-year aircraft service life would
bring it to 17.5 years. Increasing the average load factor by 25 percent means
that the trunk carriers' present traffic volume could be carried by SO percent of
their existing fleet, that is, by about $9.8 billion worth of aircraft rather than
the $12.25 billion (undepreciated value) in existence as of June 30, 1974.'^
17.5 years, the annual replacement rate would be in the order of $560 million
($9.8 billion-=-17.5) rather than the $875 million rate required to replace the
current fleet every 14 years ($12.25 billion-^14). This would be a saving of
roughly $315 million per year, or about $1.90 per passenger enplanement.''-
The above calculations are quite rough and ignore the fact that increased
seat density without regulation would result in further reductions in the fleet
size required to carry existing traffic. Furthermore, while important, aircraft are
just one item of airline costs. A 25-i>ercent increase in load factor also implies
a 20-percent decrease in the number of flights which means fewer flight per-
sonnel, less fuel consumption, lower maintenance costs, smaller landing fees,
and so forth. Clearly the cost differences would be large. One can begin to see
how emphasizing service-quality rivalry increases the costs of the CAB-regulated
airlines. One can also begin to see why the successful intrastate carriers have
been able to survive and profit under fa-res much lower than those authorized
by the CAB.
Decreased specialization
When relatively unregulated, the intrastate carriers have been characterized
by operational simplicity and homogeneity. Generally speaking, each carrier
has operated only one aircraft type at any point in time (except for brief tran-
sitional periods), offered only one class of .service (coach), and operated be-
tween cit.v-pairs that provided traffic flows and stage lengths compatible with
the chosen aircraft type. Some of the carriers, such as Mercer Enterpri-ses and
Holiday Airlines, have served recreational communities or activities where low
"« Id. at 209-10.
o" Id. at 40-44, .5.5-.56. Also. CAB. supra, note 1. nt 3.52.
•" CAB, Air Carrier Traffle Rtati.'^tics 1 (Dec lOT.S), and 2 (Sept. 1974).
" CAB. snnra. note fi2. at •">.").
Furthermore, if this smaller number (value) of aircraft were replaced every
"2 Total system tnrnk revenue passenjrpr enplanements for the year ended September .30.
1974, was 166,7.30,000. CAB, supra, note 70, at 2.
480
trafl5c densities exist. Others, like PSA and Southwest, have operated between
large cities having high traffic densities. To this day, PSA, the largest of the
intrastate carriers, serves only 11 airports while, prior to 1965, it never served
more than five airports at one time. Similarly, Air California now serves
eight airports. Holiday seven, and Southwest three." Overall, the intra-
state carriers have customarily been quite small. Only one (PSA) has
ever operated more than a dozen aircraft at one time (three to six aircraft has
been the usual fleet size), and they have consistently had very simple fare
structures and procedures. All this has allowed each employee to become inti-
mately familiar with his work. Pilots, for example, spend large parts of their
professional lives flying only one aircraft type between just a few airports. In
the same way, the work of employees engaged in maintenance, engineering, sched-
uling, reservations, accounting, etc., are all simplified, and managers can become
intimately acquainted with the carrier's traffic and operational features.
Contrast this to the trunk carriers at the end of 1972. The smallest number
of U.S. and foreign cities served by any carrier was 37 (Western) while the
largest number was 89 (United). The number of certificated route miles ranged
from 10,821 (Western) to 38,968 (TWA), and the trunk fleets ranged from
60 aircraft (Continental) to 388 (United) with each carrier operating several
different types of aircraft.'* Even the local service carriers were geographically
large and diverse in comparison with the intrastate carriers. In December 1972
each of them between 50 and 95 cities connected by 3,660 to 8,295 certificated
route miles, and each operated 33 to 133 aircraft." Even brandnew Air New
England has been authorized to serve 14 cities located throughout New Eng-
land." The operational problems and complexities faced by these certificated air-
lines are much greater than those of the intrastate carriers, and the associated
decrease in specialization translates into less output per employee.
Rough indications of the effects of specialization on airline productivity may
be obtained by comparing the 1965 average annual output per employee of the
total trunk carriers as a group and of Western Air Lines (one of the more
productive of these carriers) with that of PSA. 1965 was, of course, the last year
of relatively unregulated operations in California, and it was also the year that
PSA introduced jet aircraft and thus operated a fleet whose composition was
very similar to that of the trunk carriers." Two of the productivity measures
will be available seat-miles (ASM) per employee and revenue passenger-miles
(RPM) per employee. It happens that these two measures are biased against
the certificated carriers because they provided relatively more cargo service
than PSA which served to inflate their number of employees without increasing
their ASM and RPM figures. Therefore, to provide balance, operating revenues
per employee will also be given with the recognition that this measure is biased
against PSA since its lower fares required more physical output per dollar of
revenue. The data for Western Air Lines are particularly useful, both because
they indicate the range of trunk carrier productivity and because a substantial
portion of its total operations were entirely or partially within California which
may yield increased comparability with PSA's data. The comparisons are given
in table 8.
TABLE 8.-AVERAGE ANNUAL OUTPUT PER EMPLOYEE (PSA COMPARED WITH TOTAL TRUNK CARRIERS AND
WESTERN AIR LINES), 1965
Output per employee
PSA percent gre
Total trunks
ater than
Output measure
Total trunks
Western
PSA
Western
603,000
769, 000
431, 000
$26, 100
1, 270, 000
804, 000
$32, 500
111
141
46
65
. ... 333,000
87
Operating revenues
$22, 200
25
Source: William A. Jordan, Airline Regulations in America), 215, 217, 219 (1970).
"PUC. Present and Pronosed Route Structures of California Certificated Air Carriers
and Routes Onerated bv CAB Certifleated Air Carriers as of July 1, 1974. lA. 10. 15A
(n.d. ). .Vise, Southwest Airlines, Third Quarter Report (nine months ended Sept. 30,
1974).
"!* CAB, supra, note 1, at 1-2.
'5 Id.
7« CAB press release 75-18 (.Tan. 23, 1975). . , ,. ^ .^
"1965 was neither the hest nor the worst year for PSA's productivity re'ative to the
certificated airlines. While its jet operations increased total output, between April and
AuKust its total number of employees increased from 575 to 740 persons. William A.
Jordan, supra, note 1, at 339-40.
481
Again, large differences can be seen to have existed between the performances
of the certificated trunk carriers and PSA. After talcing account of the biases in
the measures, it appears that in 1965 PSA's output per employee was about 100
percent larger than the average for all trunk carriers, and almost 60 percent
larger than Western's output per employee. Of course, the certificated airlines
provided higher quality service (including first-class service), operated many
conveniently located ticket offices, were engaged in regulatory activities, and .so
forth, all of which would decrease employee output as measured in table 8. At the
same time, their much larger and diverse route structures added complexity to
their operations. Combined, these factors decreased employee productivity in
terms of fundamental output measures. Here is yet another reason why the suc-
cessful intrastate carriers v.-ere able to survive while charging appreciably lower
fares than the CAB-regulated airlines — their specialized operations simply
yielded more output per employee.
Increased input prices
The earlier analysis of carrier rivalry has shown that the regulation-promoted
emphasis on service-quality rivalry has served both to increase the total .stock of
aircraft operated by the airlines and to decrease their utilization by installing
fewer seats, operating at lower load factors, and retiring them at relatively early
ages. Since the end of World War II there have been three major reequipment
cycles — starting in 1946 with pressurized aircraft, then turbine-powered aircraft
in 1958 and, finally, wide-bodied aircraft in 1970 — each with several phases in
which improved versions of the basic innovation were developed. Given the
emphasis on service-quality rivalry, it has been essential that each CAB-regulated
airline operate the mo.st modern equipment, and thus each new aircraft type has
been adopted quickly and extensively by the regulated airlines with a concurrent
replacement of existing aircraft.™
Clearly, the above .situation has resulted in greatly increased demand for new
aircraft and this has benefited the aircraft and engine manufacturers over what
they would have experienced without CAB regulation. At the same time, the
increased variety of airci-aft produced has re.sulted in higher costs of production.
Economic theory (and common sense) predicts that increased demand for a good
combined with increased costs of producing that good will result in higher equi-
librium prices regardless of whether the market structure is competitive, oligop-
olistic or monopolistic. Thus, there is every theoretical reason to expect aircraft
prices have been increased as a result of CAB-regulation. Actually, it is difficult
to imagine how the 1938 and 1958 acts could have been written and implemented
to promote greater demand for the products of the aircraft and engine manufac-
turers at the expense of the airlines and, through them, those consumers of air-
line services who value lower prices relatively more than very high service-
quality.™
By prohibiting the entry of new airlines, CAB regulation has also greatly bene-
fited airline employees. The employees of CAB-regulated airlines know that they
can obtain higher wages or more co.stly work rules without fear of having some
new or existing airline enter and destroy their company and their jobs through
price rivalry supported by lower labor costs. They also know that should their
company happen to fail it would be merged with another CAB-regulated airline
whereupon the CAB's labor-protective policies would result in their obtaining
similar jobs in the merged company or "receiving sub.stantial termination pay-
ments.'" Furthermore, where a union provides the only source of labor of a certain
category for most of the industry (pilots, for example), or where labor can other-
wise act industry-wide, they know that the airlines can transfer a large portion
of above-market wage demands to airline customers simply by agreeing on price
increases with their fellow carriers through CAB procedures. The overall result
of these factors appears to be ever higher labor costs for the regulated airlines.
Evidence pertaining to the.se factors is fragmentary, but significant. In recent
studies of the trunk and local service carriers, the CAB found that total labor
costs in 1973 comprised 45.7 percent of total operating expenses for the trunk
carriers and 48.9 percent for the local service carriers." In contrast, in informa-
™ William A. Jordan, supra, note 1, at 36-44. .\lso. William A. Jordan, exhibit DJ-RT-1,
13-21 (testimony submitted in the American-Western merger case, CAB docket 22916,
June 25. 1971).
■^ William A. Jordan, supra, note 1, at 230-33.
so CAB order 72-4-31/32 (March 28, 1972), at 18-33.
"1 CAB, Productivity and Cost of Employment, System Trunks, Calendar Years 1972 and
73, 8 (Sept. 1973). Also, CAB press release 75-13 (Jan. 16, 1975).
51-146 O - 76 - pt. 1 - 32
482
tion submitted to this subcommittee, Air California advises that for the eleven
months ended November 30, 1974, wages and executive salaries totaled just 26.1
percent of its total costs.**" Similarly, Southwest reports these labor categories
accounted for only 28.37 percent of its total costs for the 10-month period ended
October 30, 1974.''
Factors other than regulation probably influenced the above percentages. For
example, it appears that the two intrastate carriers included interest expenses
in their total costs while these are not part of the CAB-defined operating expenses.
However, adding interest expenses to the certificated carriers' operating expenses
merely brings their labor costs to 44.3 percent (trunk) and 47.2 percent (local
service) of the expanded total.** Another possible cause of these differences in
labor's share of total costs is that both Air California and Southwest are young
companies with relatively low seniority costs. Actually, the percentage differences
are too large to be accounted for by such adjustments. Instead, they are consist-
ent with the prior evidence that the employees of small, specialized airlines are
more productive than the employees of CAB-regulated airlines, and with the hy-
pothesis that regulation allows employees of certificated airlines to obtain higher
wages for all categories of workers.
The only California intrastate carrier to be unionized prior to 1965 was Cali-
fornia Central — the largest and most important of the California airlines from
January 1949 until it was adjudged bankrupt in February 1955. Both its pilots
and mechanics were unionized, and a 37-day strike by the mechanics occurred in
July and early August 1953. It appears that this strike and the subsequent wage
increase reduced California Central's ability to operate effectively against its
low-fare rivals (including PSA). In January 1954, just six months after the
strike, it initiated the bankruptcy proceeding that eventually resulted in its
demise.^
It also appears relevant that PSA was never unionized until early 1971 when
its station personnel voted to be represented by the Teamsters Union.®" While
initially voting against union representation, PSA's mechanics eventually also
joined the Teamsters and in November 1973 carried out the first strike ever insti-
gated against PSA.^ While far from conclusive, it should be noted that these
actions followed the PUC's effective closure of entry into the major California
city -pairs during the period ending in late 1969.
The above analyses pertain to the airlines' two most important types of in-
puts— aircraft and labor. Similar analyses could be made regarding suppliers
of other inputs such as airports, petroleum products, supplies used in in-flight
services, etc. Enough has been said, however, to indicate how regulation can act
to increase the prices and quantities of inputs utilized by the CAB-regulated air-
lines in providing their high-quality services.
Summary
CAB regulation has served to decrease airline eflSciency and. thus, increase
airline costs. It has done so by closing entry and then by providing an environ-
ment which encourages the certificated airlines to undertake extensive service-
quality rivalry among themselves for larger shares of traflic, revenues and, hope-
fully, profits. As a result, the CAB-regulated airlines purchase excessive numbers
of very costly aircraft and then under-utilize them ; they operate over large and
diverse route structures which decrease specialization and increase operational
complexities, and which are associated with significantly lower employee produc-
tivity ; and, finally, they pay higher prices for the larger quantities of inouts
that are required for their high-quality services.
All U.S. airlines must comply with the safety and operational regulations of
the Federal Aviation Administration. Thus, the question is, given FAA regulation,
does the economic regulation of the CAB significantly influence airline safety?
The evidence on this point is unclear.
»- R. W. Clifford, president, Air California, Letter to Senator Edward M. Kennedy,
attachment (Dec. 19, 1974).
'*•'' M. Lamar Muse, president, Southwest Airlines, Letter to Senator Edward >L Kennedy.
20 (Jan. 3, 1975).
^ CAB, Air Carrier Financial Statistics, 1, 4 (Dec. 1973).
ss William A. Jordan, supra, note 1, at 183-S4.
88 PSA, First Quarter Report (ending Mar. 31, 1971).
87 The Wall Street Journal, 16 (Midwest edition, Nov. 19, 1973).
483
The California intrastate carriers have experienced two fatal accidents. On
December 7, 1949, a California Arrow DC-3 crashed near Vallejo, California,
killing six passengers (including the wife and son of the airline's owner) and
three crew members." Then, 14 years later on March 1, 1964, a Constellation L-049
of Paradise Airlines crashed near Lake Tahoe, killing 81 passengers and foui
crew members.*'* These two crashes resulted in a passenger fatality rate of 2.67
passengers per 100 million revenue passenger-miles for the California intrastate
carriers from 1949 through 1965, compared with a rate ot only 0.45 fatalities per
100 million revenue passenger-miles for the trunk carriers and a rate of 0.92 for
the local .service carriers for these same years.'" Proponents of CAB regulation
could well use these results to conclude that CAB regulation has indeed increased
airline safety.
In opposition to this position, proponents of decreased CAB regulation could
point out that, because of the relatively small number of revenue passenger-miles
provided by the intrastate carriers, the Paradise crash had an inordinate and
statistically nonpredictive effect on the data ; "' that the short stage lengths of
intrastate operations increa.se the probability of crashes aue to the high exposure
resulting from frequent takeoffs and landings (note the local service carriers'
higher fatality rate) ; and that there have been no other crashes of intrastate
carriers (either in California or Texas) so that the 1949-74 fatality rate would
be very much lower than the 1949-65 rate.
It happened that both California Arrow and Paradise terminated intrastate
operations shortly after their crashes. California Arrow transferred its remaining
aircraft to irregular interstate service, while the FAA suspended and then refused
to renew Paradise's operating certificate. Thus, in each case a fatal accident
imposed substantial economic penalties on the intrastate carrier. No CAB-
regulated airline has borne similar penalties following a crash. In fact, the CAB's
economic regulation may even prevent the full application of sanctions otherwise
applicable under federal .safety regulations or available to consumers. With
respect to service termination, if a carrier ix»ssesses a CAB certificate of public
convenience and necessity, does the FAA really have the power to suspend its
operating certificate following one or more fatal accidents, or are the FAA's
corrective powers actually limited to fines, increased surveillance of operations,
etc.? In terms of consumer choice, .since carriers with low passenger fatality rates
are prohibited by the CAB from quickly extending operations over the routes of
a carrier having a relatively high fatality rate, do air travelers have as many
opportunities under CAB regulation to express their concern over a carrier's
poor safety record by using other carriers having superior records?
Regardless of one's opinion on this matter, the complete absence of fatal acci-
dents by PSA during 16 years of unregulated operations (and continued now
under increased regulation), and by California Central during .six years of opera-
tions, does indicate that economic regulation is not a necessary condition for
airline safety. At the same time, the varying experiences of individual certificated
airlines .show that such regulation is not a sufficient condition for superior safety
performance.
CONCLUSION
There is strong evidence that CAB regulation has reduced entry into the
airline industry, resulted in exit occurring only through acquisition and merger,
and has caused fares to be much higher than they would be without regulation.
One would think this would have been very beneficial to the regulated airlines
and that they would have enjoyed consistently high profits. Unfortunately, the
recurrent crises and low profits of most regulated airlines demonstrate that such
has not been the case, and the reason for the airlines' problems can also be
attributed to the CAB's regulatory policies and procedures. By motivating air-
lines to purcha.se excessive numbers of aircraft and then underutilize them by
requiring them to operate diverse services thereby reducing specialization and
lowering employee productivity, and by providing an environment where larger
amounts of inputs are purchased at higher prices, CAB regulation has increased
The£i''.^n'|Jles"'limeJ:\''(D;Y.t^ ^'""'"''" ^'^" '''^^>' "^ ^-^"^- ^^^l)' ^'^»'
^ wnn'nm '"a^'V" A^'""'^*'"* Report. 1-2 (SA-.378, file 1-002, July 12, 1965, proces.sed ) .
"" WlUlam A. Jordan, supra, note 1, at 49-.53 -^ < > i- i
carried'" hv^^th'rPnWf^'^ •'^''^ '?' V'"!" ""e-half of 1 percent of all revenue passenser-mlles
l^r^^ntlUZ\:tll%7i'^.^'^^^^^^ '''' *° l^^^' ">-' -^<^ounte6 for 93
484
airline costs as much as it has increased fares. Indeed, regulated fares 50 to 100
percent higher than nonregulated fares have been accompanied by emp oyee
productivity 40 to 50 percent lower than the most successful of the nonregulated
intrastate carriers. This, of course, indicates a fundamental fallacy in the Board s
policy of basing fares on regulated airline costs.
Rather than the airlines themselves (or their stockholders) being the prime
beneficiaries of CAB regulation, the major beneficiaries appear to have been
airline employees, aircraft and engine manufacturers (and their stockholders
and employees), and suppliers of all the other inputs utilized by the regulated air-
lines Passengers who value high-quality airline service relatively more than
other goods and passengers who do not pay for their air travel, have also
benefited from the high-quality service flowing from CAB regulation. Passengers
who, in contrast, prefer low-price and somewhat lower-quality service have been
harmed, either by having to pay higher prices for airline services or by using less
preferred means of travel, or by not traveling at all. Also harmed through having
to pay higher prices or higher taxes are the many consumers of goods and services
produced by firms or government agencies utilizing air transportation in their
production and/or distribution activities.
Clearly, the present type of airline operation flowing from CAB-regulation is
very inefficient, including substantial inefficiencies in fuel consumption. Assuming
economic efficiency in a world of scarcity is desirable, this inefficiency may be
rectified in one of at least two ways. The first way is to eliminate the imperfec-
tions of current CAB regulation by placing every aspect of airline operations
under the direct control of the CAB. The aim would be to increase efficiency by
eliminating service-quality rivalry. It would be a pure cartel attempting to
maximize airline profits, or other goals, in a world of uncertainty. Of course,
some individuals would be harmed by this alternative. The elimination of service-
quality rivalry would result in decreased demand for personnel, aircraft and
other inputs, and would reduce service-quality with little or no reduction in
general fares. This alternative may be attractive to many airline stockholders
and managers, but it has drawbacks over the long-run (say, 10 to 20 years). First
of all, those employees still working for the airlines (and other airline suppliers)
would endeavor to capture ever larger shares of the higher profits and, given
their own monopoly powers, would be successful in so doing. Second, higher
fares and decreased service quality would provide great motivation and many
opportunities for innovators to develop new substitute services to attract the
airlines' traffic from them. An historical example of such an occurrence is the
way the motor carriers have been able to divert large amounts of traffic from the
railroads. Third, the administration of this cartel would doubtless be cumbersome
and slow to adjust to changes. So long as airline demand continues to grow, this
first alternative will remain viable. It will, however, be very vulnerable to
innovations or to a secular decline in demand.
The second way to eliminate airline inefficiency stemming from CAB regulation
is to abolish entry control and to allow any airline to lower its fares without
regulatory restraint, that is, to adopt the essentially nonregulated environment
that existed within California prior to 1965. This too would be undesirable to
the aircraft and engine manufacturers (unless they quickly develop aircraft
having appreciably lower operating costs) because large numbers of excess air-
craft would have to be absorbed into a revamped industry emphasizing low-cost,
high-load factor operations. High-paid and/or relatively unproductive employees
would find them.selves unemployed as their companies went bankrupt or radically
decreased their .sizes of operation, but many of these same employees would find
themselves working for the large numbers of new or expanded airlines that would
purchase existing aircraft and inaugurate service. Airline passengers preferring
low-prices would find themselves better off as would the consumers of goods
utilizing air transportation as a productive input. The period of adjustment
would probably be in the order of ten years (the effective lives of some of our
older jet aircraft), but upon its conclusion the U.S. would have an efficient, low-
price air transportation system better able to adjust to economic fluctuations
and operating in a way that would make the emergence of substitute services
more difficult. The short-run "medicine" would taste terrible, but the long-run
prognosis would be good.
Congress has to choose between the status quo or variations of one of these
two alternatives. The choice will not be easy because many indiwduals will
be harmed and many others benefited regardless of the choice.
485
ONE-WAY COACH PRICES ' FOR DALLAS-HOUSTON AND DALLAS-SAN ANTONIO SERVICE
SOUTHWEST AIRLINES, BRANIFF AIRWAYS, AND TEXAS INTERNATIONAL AIRLINES
JUNE 1971-DECEMBER 1974
One-way coach price
Dallas-Houston (222 mil
es)
Dallas-San Antonio (253 miles)
Day
Night
Day
Night
Effective date
SW
BNTT
SW
BNTT
SW
BN
SW BN
1971:
Junel
June 18.
----
$27 __.
= 20 ...
20
20
26
26
»27
27
■0 27/13
12 27/13
27/13
•6 27/13
17 28/15
.30/15
31
3 $10
10
10
8 13
13
13
13
13
13
13
8 15
15
=3 15 .
15 .
""Vio.'oo'
""13.00"
13.00
13.00
18 14. 99
14.99
$20" 2 20'.
20 20
5 26 20
26 26
7 26/13 26
26/13 » 28
13 28
13 28
13 28
13 H 28/13
13 28/13
15 i» 29/15
15 21 31/15
22 25/15 31
25/15 32
1972:
May (na)
20
4 $10
10
10
July9..
July 17/21
526
26
Oct. 30
1973:
Jan. 5
Jan. 22 _..
Feb. 1
Apr.2
May 21
.... '26/13
26/13
.... 26/13
13
.... 7 26/13
26/13
8 13
13
13
13
13
13
Sept. 24
Dec. 1.
.-_ 26/13
'9 28/15
13
1974:
Apr. 16
Oct. 1
Nov. 15
.... 28/15
.... "25/15
.... 25/15
15
23 15
15
1 Jet coach/economy/1-class fare plus 8 percent Federal transportation tax.
2 This and the subsequent prices in this column to Oct. 30, 1972, were available to intrastate passengers only. Interstate
passengers continued to pay the price specified above. Effective Oct. 30, the highest price listed in each entry applied to
interstate as well as intrastate passengers.
3 Applicable to 1 northbound and 1 southbound flight departing after 9 p.m. on weekdays and Sundays.
< Applicable to 1 northbound flight departing after 9 p.m. on Fridays and 1 southbound flight departing after 9 p.m. on
weekdays and Sundays.
s $50 round-trip price. $225 commuter club card introduced providing unlimited transportation for a 30-day period.
' Available to intrastate passengers on a daily Braniff weekday flight departing Dallas at 7 :30 p.m. and returning from
Hobby Airport in Houston at 9 p.m.
'$26 on weekday flights prior to 8 p.m. $13 on Saturday and Sunday flights with a $25 round-trip price.
8 Applicable to flights departing on or after 8 p.m.
' The CAB authorized a 2.7 percent across-the-board fare Increase effective Sept. 5, 1972, and this price was a delayed
response to that action. Texas International adopted this price for Intrastate passengers on Jan. 11, 1973.
1° Braniff: to/from Houston Intercontinental Airport $27, to/from Hobby Airport $13 with $25 round-trip price. Texas
International; to/from Houston Intercontinental $13 effective Feb. 20, 1973.
11 Footnote deleted.
12 Braniff: weekdays $27, Saturday-Sunday to/from Houston Intercontinental $27, Saturday-Sunday to/from Hobby
Airport $13. Texas International: $20.
'3 Available to Intrastate passengers on one Braniff flight departing Hobby Airport at 9 p.m. daily.
i« $28 for intrastate passengers utilizing approximately 10 daily flights. $13 for intrastate passengers utilizing another
5 or so designated flights.
15 Braniff: weekdays $27, Saturday-Sunday to/from Houston Intercontinental $27, Saturday-Sunday to/from Hobby
Airport $13. Texas International: weekdays $27, Saturday-Sunday through Sept. 30, $20; effective Oct. 1, $27 on all days.
i« $28 on weekday flights prior to 8 p.m. $15 on Saturday and Sunday flights.
1' Braniff: weekdays $28, Saturday-Sunday to/from Houston Intercontinental $28, Saturday-Sunday to/from Hobby
Airport $14.99. Texas International: $28.
■^ Available to intrastate passengers on Braniff flights departing on or after 7 p.m. to/from Hobby Airport.
'« $29 for intrastate passengers utilizing approximately 10 daily flights. $14.99 for intrastate passengers utilizing another
5 or so designated flights. Effective Jan. 13, 1974: $29 for all flights to/from Dallas-Fort Worth Regional Airport, $15
for all flights to/from Love Field.
20 Braniff: weekdays $30, Saturday-Sunday to/from Houston Intercontinental $30, Saturday-Sunday to/from Hobby
Airport $14.99. Texas International: $30.
21 $31 for all flights to/from Dallas-Fort Worth Regional Airport, $15 for approximately 3 daily flights to/from Dallas
Love Field. Braniff terminated all service at Love Field effective Sept, 1, 1974.
22 $25 on weekday flights prior to 7 p.m. $15 on Saturday and Sunday flights.
23 Applicable to flights departing on or after 7 p.m.
Source: Braniff Airways, letter from T. P. Robertson (Jan, 29, 1975); Southwest Airlines annual report (1971, 1972, and
1973). Also quarterly report (3 months ended Mar. 31, 1972-74, June 30, 1972-73, and Sept. 30, 1971-73). Texas Inter-
national Airlmes, letter from V.R.Shelley (July 16, 1974). Official Airline Guide (North American edition, Apr. 15, June 1,
Sept. 14, Oct. 15, Nov. 1, and Dec. 1, 1972; Apr. 1, May 15, June 15, July 15, and Nov. 15, 1973; Jan. 15, Feb. 1, May 1,
Aug. 1, Oct. 15, and Dec. 1, 1974). Aviation Week and Space Technology 43 (Apr. 30, 1973), and 37 (June 4, 19^^ The
Houston Post 5/A (Jan. 31, 1973).
486
APPENDIX B
TOP 100 ORIGIN-DESTINATION CITY-PAIRS ^ IN ORDER OF PASSENGER RANK, CAB-CERTIFICATED AND
CALIFORNIA/TEXAS INTRASTATE AIRLINES (SCHEDULED DOMESTIC SERVICE, 1972)
Rank and City-pair 1
Number of
airport
pairs
Number of
origin-desti-
Intercity nation
mileage « passengers
1 Boston-New York/Newark
2 Los Angeles-San Francisco
3 Miami-New York/Newark
4 Chicago-New York/Newark
5 New York/Newaik-Washington
6 Los Angeles-New York/Newark..
7 Fort Lauderdale-New York/Newark
8 Los Angeles-San Diego
9 Detroit/Ann Arbot-New York/Newark
in New York/Newark-San Francisco
n Los Angeles-Oakland-
12 Los Angeles-San Jose..
13 Chicago-Los Angeles
14 Cleveland-New York/Newark
15 New York/Newark-Pittsburgh
16 Los Angeles-Sacramento
17 Dallas/Fort Worth-Houston
18 Las Vegas-Los Angeles
19 Boston-Washington -
20 Chicago-Detroit/Ann Arbor
21 Atlanta-New York/Newark ----
22 Buffalo/Niagara Falls-New York/Newark...
23 Chicago-Minneapolis/St. Paul
24 Chicago-Washington -
25 Honolulu-Los Angeles -
26 Burbank-San Francisco
27 Chicago-Miami ■
28 Chicago-St. Louis
29 Hrlo-Honolulu
30 New York/Newark-Rochester
31 Honolulu-Lihue
32 New York/Newark-Tampa -
33 San Diego-San Francisco
34 Boston- Philadelphia
35 Chicago-Philadelphia
36 Boston-Chicago
37 Chicago- San Frr.ncisco
38 Los Angeles-Phoenix
39 Honolulu-Kahului
40 Chicago-Cleveland
41 Denver-Los Angeles.. -
42 Dallas/Fort Worth-New York/Newark
43 San Francisco-Seattle.
44 New York/Newark-St. Louis
45 Los Angeles-Seattle - -
46 Boston-Miami
47 New York/Newark-Syracuse
48 Miami-Philadelphia
49 Philadelphia-Pittsburgh
50 Los Angeles-Washington
51 Chicago-Denver.
52 Houston-New York/Newark
53 Chicago-Kansas City
54 Honolulu-San Francisco...
55 Dallas/Fort Worth-Los Angeles
56 Burbank-San Jose....
57 New York/Newark-West Palm Beach
58 San Francisco-Santa Ana.
59 Denver-New York/Newark..
60 New York/Newark-Orlando... --■
61 Minneapolis/St. Paul-New York/NevKark.
62 Cincinnati-New York/Newark
63 Miami-Washington
64 Chicago-Pittsburgh
65 Atl anta- M iami
66 San Francisco-Washington
67 Boston-Los Angeles
68 Columbus-New York/Newark
69 Chicago-Dallas/Fort Worth
70 Ontario-San Francisco
71 Dallas /Fort Worth-San Antonio
72 Baltimore-New York/Newark
73 Detroit/Ann Arbor-Los Angeles
74 Miami-Tampa
See footnotes at end of table.
3
1
3
6
6
3
3
1
3
3
1
1
2
3
3
1
4
I
2
2
3
3
2
4
1
1
2
2
1
3
1
3
1
1
2
2
2
1
1
2
1
6
1
3
1
1
3
1
1
2
2
6
2
1
2
1
3
1
3
3
3
3
2
2
1
2
1
3
4
1
2
3
1
I
191
355
1,092
721
215
2,453
1,071
101
489
2,574
3 354
3 324
1,740
410
329
8 379
222
227
406
238
755
289
344
591
2,556
3 342
1,188
256
216
252
102
1,003
456
274
675
860
1,853
358
100
312
839
1,363
671
882
959
1,258
197
1,017
273
2,288
907
1,416
407
2,399
1,246
3 311
1,030
3 389
1,627
941
1,016
579
920
404
595
2,430
2,600
472
790
S377
253
179
I 988
Iw
2, 077, 000
1,984,000
1,930,000
1, 785, 000
1,738,000
1, 092, 000
871,000
855, 000
782, 000
779, 000
713,000
666, 000
653, 000
623, 000
619, 000
588, 000
580, 000
575, 000
570, 000
565, 000
549, 000
517, 000
476, 000
458, 000
454, 000
454, 000
436, 000
429, 000
424, 000
401, 000
397, 000
396, 000
394, 000
393, 000
376, 000
376, 000
374, 000
373,000
355,000
353, 000
348, 000
347, 000
340, 000
339, 000
327,000
326, 000
319, 000
319, 000
312,000
309, 000
305, 000
300, 000
294, 000
294, 000
292, 000
286, 000
283, 000
281, 000
277, 000
270, 000
269, 000
267, 000
265, 000
263, 000
256, 000
255,000
252,000
250, 000
244,000
244,000
240,000
238,000
235,000
231. 00 C
487
APPENDIX B
TOP 100 ORIGIN-DESTINATION CITY-PAIRS i IN ORDER OF PASSENGER RANK, CAB-CERTIFICATED AND
CALIFORNIA/TEXAS INTRASTATE AIRLINES (SCHEDULED DOMESTIC SERVICE, 1972)— Continued
Rank and City-pair'
Number of
airport
pairs
Intercity
mileage 3
Number of
origin-
destination
passengers
303
1,151
597
3 358
3 J41
S40
1,906
1,521
1,177
537
540
654
956
3 115
i,172
391
254
2,396
1,445
1,372
132
3 370
1,5?6
2,703
150
291
231, 000
76 Detroit/Ann Arbor-Miami
229, 000
229, 000
78 San Jose-Santa Ana .
228, 000
79 Burbank-Oakland
227, 000
80 Atlanta-Washington
81 Chicago-Tampa
226, 000
225, 000
82 Chicago-Las Vegas
223, 000
83 New Orleans-New York/Newark
84 Charlotte-New York/iNewark
223, 000
222, 000
208, 000
86 Indianapolis-New York/Newark
87 Denver-San Francisco
208, 000
206, 000
200, 000
89 Chicago-Fort Lauderdale
200, 000
90 Detroit/Ann Arbor-Washington
200, 000
19?, 000
92 Los Angeles-Philadelphia
198, 000
196, 000
94 Houston-Los Angeles
195,000
95 Portland-Seattle
195, 000
193, 000
97 Los Angeles-Minneapolis/St. Paul
98 Boston-San Francisco..
193,000
191,000
189, 000
100 < New York/Newark-Norfolk
186, 000
' As defined in the CAB origin and destination survay. In some cases the CAB combines two or more airports
Origin-Destination serving one city. In those cases, as shown above, each city-pair includes two or more airport pairs.
■ As specified by the CAB. In some cases intercity mileages differ slightly from inter-airport mileages.
3 Estimated using inter-airport mileages.
< The following larger intrastate city-pairs are not among the top 100 city-pairs: Oakland-San Diego = 178,000; Oakland-
Santa Ana = 158,000; Sacramento-San Francisco = 152,000; San Diego-San Jose = 139,000; Sacramento-Santa Ana =
92,000; Ontario-San Jose=91,000; Houston-San Antonio=89,000; Ontario-Sacramento = 79,000; Burbank-Sacramento =
71,000; Oakland-Ontario = 65,000.
Sources: CAB, "Handbook of Airline Statistics," 433 (1973 ed.).
PUC, "Form 1511 report" number 33 (12 mos. ended Dec. 31, 1971 and 1972), and for SANSFO/
OAK/SJC; number 34 (12 mos. ended June 30, 1972 and 1973).
Prepared Statement ob^ Dr. John R. Summerfield
My name is John R. Summerfleld. I am president of Summerfield Associates,
a transportation research and consulting company.
I welcome an opportunity to discuss with this subcommittee a topic that has
interested and confused politicians, academicians and businessmen alike: namely,
differences l)etween interstate and intrastate airline costs and, hence, fare levels.
I plan to demonstrate the low-cost operation of the California intrastate air
carriers is a disiippearin.s; phenomenon. Rcnuiiuits of the aiiparent low cost are
attributable to isolation from the integrated f.S. air t nuisportation system, not to
lack of regulation. If PSA wen> part of the integrated interstate airline system
of the United States, the airline would have reported a loss of about $8M. million
1974 instead of the profit of $].<; million reported earlier this week (assuming
48 percent Federal income tax). Despite intra-California fare increases that have
exceeded those approved by the Civil Aeronautics Roard, PSA's profit have been
declining and just this month the airline has begun furloughing employees in an
attempt to offset losses in the last half of 1974.
My testimony is liased on a study I conducted to determine in what specific
way.s the co.st structures of the two California intrastate air carriers— PSA and
Air California— differ from cost structures of tnmk and local service air c-arriers.
Regulation is not the issue. Fares of Air California and I'SA are regulated ))y
the California I'ublic Itility Commissirm (Pl'C) instead of by the CAR. Pas-
sengers purciiasing tickets within California for travel wholly within the State
pav the pre fare. Passengers purchasing tickets outside California pay the
CAR fare. The recr)rd of recent years clearly demonstrates that the PUC is as
sensitive to carriers' rising costs as is the CAR ; in the Los Angeles-San Francisco
market, for example, the PUC has granted fare increases amounting to 30.7 per-
488
cent since 1969, compared with CAB authorized increases of only 26.7 percent in
the same period. The PUC also controls route authority within California.
If not regulation, what factors do account for the apparent lower cost structure
of an intrastate carrier? To answer this question, it is useful to examine the
operation of the two California intrastate air carriers. Because tJiey are intra-
state carriers, they cannot sell tickets to passengers traveling outside California.
That fact alone means that their reservations clerks do not need to become
involved in routing a passenger to remote points, in computing fares on trips
connecting to other carriers, or in any of the other information a trunk or local
service carrier's reservations clerks must become involved in. Because of these
differences the average reservation call to an interstate carrier, even with massive
assistance from a computer, lasts about 3 minutes, compared with less than 1
minute for a reseration call to an intrastate carrier. PSA has estimated that its
reservation service costs 77 cents per passenger. This year PSA will carry about
61/^ million passengers. If it had to handle typical reservation loads of an inter-
state carrier (3 minutes vs. 1 minute per call), its costs would probably be at
least $1.50 per passenger higher, or an extra $9% million a year. In 1974, PSA's
profit was $1.6 million.
Ticketing economies of the PSA system exist for the same reasons. No multiple
stop tickets with complex routing and joint fares are written. Each transaction
is a point-to-point trip for which the passenger receives a cash register receipt
that serves as his ticket. Although many trunk and local service airline tickets
are now printed by computer, the multi-stop tickets, the complex ones that take
so long when you are standing in line behind a traveller with a long itinerary, are
handwritten and fares are hand-computed. If PSA had to sell interline tickets,
its average cost per ticket written would increase substantially because of
increased complexity. No published data exist to enable me to compute the size
of the increase. It could well cost an extra million dollars a year in added
administrative costs.
Trunk and local service airlines must provide extensive training for both
reservations clerks and ticket agents. Because the public interest requires that
the air transportation system be integrated and interrelated, trunk and local
service employees must be able to route a traveller to any designation in the
world and be able to find the correct fare. This is no simple task. To impart and
update this knowledge and skill, trunk and local service carriers spend sub-
stantial sums for training. By comparison, intrastate carriers' training costs for
these categories of employees are very much lower.
Revenue accounting is a third function in which PSA saves money because
it does not sell interline tickets. Trunk and local service carriers employ large
staffs of revenue accountants, often aided by computers, to determine, among
other things, how much their airline owes other airlines for interline sales
and how much other airlines owe them. By comparison, PSA needs only to add
the cash register receipt tickets it collects. Here again, published data do not
enable me to determine how much more it would cost PSA if its revenue account-
ing office had to deal with interline accounts. It would probably run well over
$200,000 a year.
Because it doesn't sell interline space, therefore, PSA saves about $11 million
a year compared with its interstate counterpart airlines.
It cost local service airlines 7.2 cents per passenger to file and publish tariffs,
schedules, and timetables in 1973. The intrastate carriers, with their simpler
route structures and tariff, structures, were able to accomplish these functions
within California at about half that cost, or 3.5 cents per passenger. Faced with
the complexity of interstate operations, PSA would have to spend an added 3.7
cents per passenger, or nearly $250,000 extra a year, to file and publish its
tariffs, schedules and timetables.
A number of other differences between the cost structure of inlrautate carrier
and that of a trunk or local service carrier can be attributed to the fact that
intrastate carriers serve smaller geographical regions. Since the longest PSA
flight is less than 2 hours and nearly all are less than 1 hour, PSA serves no food.
It sells cocktails and serves complimentary soft drinks. Profits on the sale of
cocktails cover the cost of soft drinks. By contrast, local service carriers spend
over 50 cents per passenger on food. If PSA operated a route structure comparable
to that of a typical local service carrier, its food service would cost over $3
million.
489
Lack of food service provides other benefits for PSA and Air California.
Because there are no galleys in their aircraft, there is room for more seats and,
therefore, an opportunity to increase revenues per flight at very little extra
operating cost. PSA's Boeing 727-200 aircraft have 158 seats; and interstate
competitor has 124 seats in the same aircraft model. That 27 percent extra
revenue on PSA's busy flights in the heavily-traveled San Francisco-Los Angeles
market, for example, can contribute as much as $650,000 per year in added
revenue on PSA's busy flights in the heavily-traveled San Francisco-Los Angeles
way between the two cities (plus eighteen L-1011 weekly flights each way). Even
if the extra 727-200 seats are sold only 10 percent of the time, the extra capacity
resulting from elimination of food service adds more than $650,000 a year to
PSA's revenues on the San Francisco-Los Angeles run alone. Although United
can refrain from serving food on these short runs, it uses its aircraft also on
longer runs that require food service. Hence, it must forego the revenue that
galley space might otherwise provide.
Another attribute of the geographically limited route structure of PSA and
Air California is that very few crews spend their nights in hotels away from
home base. Because flights are short, scheduling makes it possible for most crews
to return to home base each night. For safety reasons the Federal Aviation
Administration (FAA) requires that crews rest after long-crew duty-time.
Accordingly carriers with long route segments pay hotel and meal costs for a
large number of crews each night. Much more costly, however, is the provision
in typical union contracts that flight crews receive flight pay for a portion of
hours on the ground away from home base. Since the FAA and union contracts
both specify a maximum number of duty hours, crew productivity is lower for
the long-haul carrier. That is, becau.se of these so-called duty rigs and trip rigs
in union contracts and more crews away from home base, trunk and local
service airline pilots fly fewer hours within the same maximum duty hour limits.
Cost per hour of actual flying, therefore, is much higher for the trunk and local
service carriers than for the intrastate carriers. Trunk carriers typically pay
pilots about 20 hours of flight pay a month for nonflying activities, thus reducing
their actual flying time to about 50-55 hours a month. If PSA were to lose as
much flying time per pilot because of duty and trip rigs of the trunk and local
service carriers, its annual flight crew costs would be about $3 million higher.
Differences in flight crew requirements for the Boeing 737-200 account for
yet another saving for PSA and Air California. Trunk carriers' contracts with
the Air Line Pilots Association require a three-man flight crew despite the fact
that the FAA certificated the aircraft for a two-man flight crew. PSA and
Air California use two-man flights crews. If PSA required the third man in the
cockpit of its four Boeing 737's it would incur added costs of about $450,000
per year. For Air California's seven Boeing 737's, the added costs would amount
to about $800,000 per year.
The commuter nature of the intra-California air carriers results in consider-
ably less baggage per flight than trunks and local-service airlines carry. It has
been observed, for example, that interstate competitors carry more than twice as
much baggage per 727 flight as does PSA. For the same speed of baggage han-
dling per flight, therefore, PSA needs fewer baggage handlers. PSA also carries
little freight. Neither baggage nor freight are transferred from PSA .^o another
airline. Reported data indicate that traffic servicing costs, which encompass
passenger and baggage handling at airports, are about twice as higli per pas-
senger on both trunk and local service airlines as on the California intrastate
airlines. Excluding the economies of ticketing, discussed earlier, and allowing
for PSA's greater flexibility in crossing union jurisdictions, it is estimated that,
if PSA operated a route structure more nearly like those of either trunk or local
service airlines, PSA's traffic servicing costs would increa.se as much as $2 million
a year.
PSA's low cost operation is rapidly vanishing. Its earlier non-union status is
gone. Unions have brought pay scales in line with those of the rest of the indus-
try. A few years ago. PSA operated only in the very bu.sy high density markets
of San Diego, three Los Angeles airports, three San Francisco Bay area airports,
and the State capital at Sacramento. Recently PSA began service at The less
active cities of Long Beach. Stockton and Fresno. At these airports, lower traffic
means fewer flights and more idle time for ground crews between flights, hence
higher unit costs. So far, these low density, high cost stations represent only a
small part of PSA's operations. If. like trunk and local-service carriers, PSA
begins to serve more small communities, its cost will increase even more.
490
PSA's costs have been rising : Its profits fell from a high of $6.9 million in
1972 to $600,000 in 1973. Fare increases, however, produced earnings of $2.7
million for the first half of 1974, follo\ve<l by a loss of $1.1 million for the last
half of the year. Intrastate fares increased again 2 weeks ago.
The following quotation from a September 1974, PSA application to the PUC
for a fare increase indicates how PSA now feels about fares lower than those
set by the CAB: "In the context of competition between interstate and intra-
state carriers, adequate consideration by the Commission of the ratemaking
principles set forth by the CAB will contribute to the policy of alleviating .in-
just fare discrimination and preferential fares inherent in a dual regulatory
system. . . . Furthermore, the methodology . . . (used in the CAB's Domestic
Passenger Fare Investigation) will assists in assuring that California intra-
state carriers do not experience disproportionately low or confiscatory rates
of return in relation to interstate carriers with which they compete." That state-
ment does not sound like a confident low cost carrier.
Late last month PSA announced indefinite furloughs for 100 stewardesses and
about 50 ramp personnel to become effective February 1. The carrier also stated
that it was talking with representatives of the pilots about possible furloughs.
In summary, Mr. Chairman, the low-cost operation of the California intra-
state air carriers is a thing of the past except for that portion of the cost struc-
ture attributable to isolation from the integrated U.S. air transportation .system.
I have identified and quantified the following factors in the operating environ-
ment of the California intrastate air carriers that differ from factors in the
operating environment of interstate airlines.
Annual cost
difference
Factor : [In millions]
Reservations $9- ^5
Ticketing 1- 0
Revenue accounting 0. 2
Tariffs, schedules, timetables .25
Food service 3. 0
Additional seats in aircraft -65
Pilot duty and flight rigs 3. 0
Extra crew member in 737 • 45
Trafiic servicing 2. 0
Total identified 20. 30
If PSA operated interstate routes comparable to those of its interstate com-
petitors, its pre-tax profits would be diminished by about $20 million per year
and it would be seeking an even larger fare increase than is now pending.
SUMMERFIELD ASSOCIATES, INC.
February 28, 1975.
Mr. Stephen Breyer, Special Counsel,
Subcommittee on Administrative Practice and Procedure,
U.S. Senate,
Washington, B.C.
Dear Mr. Breyee : I am responding to your invitation at the conclusion of the
February 14 hearings in Boston to send comments and further information that
might assist the subcommittee in its understanding of the impact of air carrier
regulation. Attached are two short papers. Attachment no. 1 addresses several
issues embodied in Dr. Jordan's testimony. Attachment no. 2 addresses the 10
points you raised in Boston, i.e., the 10 rpasons advanced to explain the apparent
lower costs of PSA vis-a-vis trunk and local-sei-vice carriers.
If I can be of further assistance, please do not hesitate to ask.
Sincerely yours,
John R. Summerfield.
Attachment 1.
Response to Testimony of Dr. William A. Jordan
This memorandum challenges conclusions that Dr. Jordan stated in his testi-
mony before the subcommittee. Most misleading is his allegation tliat regulation
causes high labor costs, \^hereas in reality labor costs are high or not as a result
of employee seniority, unionization, and productivity. Productivity, in turn, de-
491
pends in part on union contract clauses and in part of characteristics of the air-
line as outlined in my testimony (Is it geographically limited? Does it sell
interline space?).
Other points I wish to make are that free entry has resulted in high bank-
ruptcy rates and instability ; that 70 percent average load factors are possible
only in very special markets ; and that longer aircraft life is not determined by
Ihe presejice or absence of regulation. The following paragraphs discuss each of
these 4 points.
/. Costs of free entry
On pages 5 and G of his testimony, Dr. Jordan attempts to demonstrate that,
absent regulation, 100 to 200 airlines would have existed during the period
covered by his earlier study. In support of this hypothesis, Dr. Jordan points out
that "two hundred and one commuter air carriers operated . . . during fiscal
year 1973, and that 126 of these small airlines operated for the entire year." With
that high a mortality rate (37 percent in one year), free entry would result in a
chaotic industry. Travellers would not know from day-to-day which carrier would
still be in business. Dr. Jordan draws the wrong conclusion from the fact that no
airline bought the defunct commuters. Mergers have helped trunk and local
service carriers provide a continuity of service to the public. Experience of the
largely unregulated sector of the industry has shown that instability may well
be a very substantial cost of deregulation.
2. Load factors
On pages o3 and 34 of his testimony, Dr. Jordan alleges that 70 percent
passenger load factors are feasible because California intrastate airlines
operated at or above 70 percent for many years. It is important to understand,
however, that average load factors of 70 percent are feasible only under special
conditions. The intra-California market is considerably less seasonal than are
most airline markets. In most markets, when time-of-day peaking is super-
imposed on day-of-week and seasonal peaking, 80 to 100 i>ercent load factor flights
are not enough to compensate for the many flights with load factors in the 20 to
50 percent bracket. Scheduling alone cannot make up for the peaking character-
istics of the market. Many costs are fixed ; hence grounding of aircraft in olT-
peak periods often results in revenue losses that exceed those costs that are
saved by not flying. My experience both at Western Airlines and at Pan Am
has convinced me that, on a system basis, airlines with extensive route systems
cannot economically operate at 70 percent system load factors and still provide
adequate serAice to the public.
3. Aircraft life
On pages 33 and 34, Dr. Jordan argues that regulation causes airlines to retire
aircraft too early. Quantitative evidence on this point is lacking. In the California
market, however, it is instructive to recall that, after PSA's introduction of the
Lockheed Electra in the early 1060's, Western tried to comi)ete in the Los
Angeles-SanFrancisco market using DC-6 aircraft at a fare of $11.43 (several)
dollars less than PSA's fare). The experiment failed to attract enough passengers
to the older aircraft, despite the lower fare.
A further point on failure to adopt new aircraft types is the cost of airport
and airways congestion. Were it not for the (possibly premature) introduction
of wide bodied aircraft, the high delay rates of 1D70 would still plague airlines
and their customers. Largely because of the.se larger aircraft and accompanying
reduced scliedules, delay rates at JFK dropi>ed from 42.6 per thousand operations
in 1970 to 18.1 in 1971 ; at Los Angeles International Aii-port, from 8.0 to 0.7.
(These rates are those recorded by FAA and measure only delays of 30 minutes
or more at the departure or arrival trafiic control center. Hence absolute
numbers are deceptively low as measures of delay.)
Finally, new aircraft types are introduced because they offer economies of
operation and other improvements, such as better fuel economy and reduced
noise levels. An air transport system that discourages modernization of the fleet
would result in aggravated pollution, especially in the vicinity of airports.
4. Labor costs
On pages 40 to 42 of his testimony. Dr. Jordan attempts to .show that regulation
causes high labor costs. To address this issue, it is helpful to consider both
wage rates and productivity. Wage scales dei)end on management philosophy
and employee bargaining strength, tempered occasionally by consideration of
492
the company's financial situation. New airlines may not be unionized at first;
but if they survive the initial years, most become unionized and wage scales within
the industry tend to become identical. I have determined, for example, that
PSA and Western now pay pilots at approximately the same hourly rate for the
.same seniority. PSA's wage costs, however, are lower because, as a younger air-
line, average seniority is lower. In the case of pilots, however, the main differ-
ence in wage costs comes from productivity. As I stated in my written testimony :
". . . because of these so-called duty rigs and trip rigs in union contracts
and more crews away from home base, trunk and local-service airline pilots
fly lewer hours within the same maximum duty hour limits. Cost per hour of
actual flying, therefore, is much higher for the trunk and local-service carriers
than for the intrastate carriers. Trunk carriers typically pay pilots about 20
hours of flight pay a month for non-flying activities, thus reducing their actual
flying time to about 50-55 hours a month."
In that testimony, I also identifietl many other elements of productivity dif-
ferences attributable to the nature of an intrastate carrier. Specifically, I
identified a 3-to-l difference in productivity of reservations clerks because intra-
state carriers do not handle interline business. Similar productivity differences
were established in my testimony for ticketing, revenue accoimting, food service,
aircraft seating configuration, extra pilots in 737 aircraft, baggage and freight
handling, ti-aining of reservation and ticketing personnel, and service at low-
density airports.
To achieve the low labor costs that Dr. Jordan believes it is possible to achieve,
we must envisage a series of new airlines, each of which ceases oi>eration before
its employees attain either seniority or union representation. That pattern of in-
stability is lUilikely to benefit the traveling public.
In summary, although I have no major quarrel with the data presented by
Dr. Jordan, I disagree with many of the conclusions he draws from the data.
Specifically, I conclude that :
1. Free entry and exit would cause major instability in airline service ;
2. Seventy per cent load factors are not feasible for the industry as a whole on
a year-around basis ;
3. Regulation is not a determining factor in aircraft life ; and
4. Labor costs are high or low because of airline age, unionization, and route
characteristics, not because of regulation or its absence.
[The memorandum referred to in the following attachment is
printed on pp. 515-17, below.]
Attachment 2
Reasons Advanced by Mr. Breyeb To Explain Apparent Low Cost of PSA
Operations
This memorandum contains comments on 10 reasons for PSA's lower costs, as
listed by Mr. Stephen Breyer at the Boston hearings of the Subcommittee on
Administrative Practice and Procedure on February 14, 1975.
Questions 1 and 7. Weather and airport congestion. — Citing minor differences
in flights not completed. Mr. Breyer concluded that neither weather nor airport
congestion contributed substantially to cost differences. High completion rates,
however, cost more in regions with higher delay rates. At the hearings, American
Airlines stated that 50 percent of its flights encountered ground or air traffic
delays at LaGuardia compared with 20 percent at Los Angeles and San Francisco.
Official delay statistics collected by FAA indicate that only 12.7 flights per
thousand suffered delays at LaGuardia in 1974. However, the reported data in-
clude only delays of 30 minutes or more at the departure or arrival air traffic
control center. If American's experience at LaGuardia is typical, more than
160,000 flights were delayed at LaGuardia in 1974. If average delays were as
little as 10 minutes, delays cost airlines about $25 million in direct operating
costs last year at LaGuardia alone. Officially reported delay rates at Los Angeles
last year were one-seventh as high as at LaGuardia.
I have sought to reconcile these data with the block-to-block statistics to which
Mr. Breyer referred at the Boston hearings. I believe that the discrepancy may
be a result of the practice of airlines, following the fuel crisis, of waiting to leave
gate positions until cleared for take-off. This practice conceals departure delays
in the block-to-block statistics. When these delays exceed 30 minutes, however,
they do appear in FAA's delay statistics. American's data presumably consider
all ground and air traffic delays regardless of whether engines have been started
or not.
493
Question 2. Traffic density. — It was stated that traffic densities between city-
pairs did not account for major differences for markets carrying at least 100,000
yearly passengers. Trunk and local service airlines serve many markets of lower
density than 100,000 a year. As pointed out on page 5 of my testimony, further-
more, airport costs are very sensitive to volume at the low volume end of the
scale. If few flights serve an airport, airline personnel and equipment are under-
utilized and units costs are therefore high.
By contrast, at airports like LaGuardia, Washington National and Los Angeles,
to name just a few, ground crews and equipment are busy most of the time for
14 to 16 hours a day. PSA only recently added low-utilization stations to its
route structure. Its rising unit costs are in part a result of the change.
Question. 3. Seasonality patterns. — The intra-California markets are more
heavily business markets than most other U.S. markets and hence not as subject
to vacation peaking. Hour-of-day and day-of-week peaking are not readily meas-
urable from published data. My experience in the California and other markets
leads me to the conclusion that the intra-California markets are less peaked than
other markets. Hence it is possible to operate at higher average load factors
within California. This point is clearly not related to the regulation issue.
Question 4. Extra interline costs. — These are the costs covered in the first part
of my February 14 testimony. Dr. Jordan challenged my comparison by stating
that an intrastate traveller would still make a brief call for reservations even if
PSA could accept interline business. He missed the point that the mix of calls
would change and would be similar to Western's or United's with more short calls
and some long calls. The argument that the added costs would be offset by added
revenue also misses the point. I cited the differences only to explain why a self-
contained system is cheaper to run. But if the entire air transport system
operated that way there would be no system. Interline connections would be
virtually impossible and the public would be greatly inconvenienced.
Question 5. Other costs identified hy Dr. Summcrfield. — Actually there are
cost differences I did not attempt to quantify that might, if measureable, add up
to a considerable amount. My testimony mentioned low-density airports, training
for interline traffic handling, and overnight expenses of crews.
Question 6. Different aircraft. — No further comments.
Question 7. Airport congestion. — See No. 1.
Question 8. Regulatory co.^ts.— These are hard to define. CAB form 41 reports
do not require separation of regulatory costs. Airlines I have queried do not keep
separate records of the costs of dealing with CAB versus PUC or even the total
costs of regulatory activities. CAB regulatory proceedings tend to be more pro-
tracted, principally because more parties are involved and more issues are raised.
Question 9. Cross subsidy. — Profitable routes do subsidize unprofitable routes
for most airlines. The chart accompanying Dr. Ehrlich's testimony of February 14
indicates that the CAB expects to continue the practice of long-haul routes sub-
sidizing short-haul routes. In addition, high-density routes subsidize low-densitv
routes, though no formula exists to recognize this fact. My personal experience
makes it clear that cross-subsidy is a fact of airline life! If exit were free, I
have no doubt that many communities would find themselves without service
from trunk or local service air carriers.
A special form of cross-subsidy exists when, for example, American Airlines
extends its New York-Los Angeles fiight to San Diego. The Los Angeles-San
Diego flight may lose money on a fully allocated cost basis, but marginal costs
may well be less than marginal revenue. American has a better chance of moving
a New York-San Diego passenger on its own long-haul leg if the passenger can
continue to his final destination without change of plane. In this case (and there
are hundreds like it) the long-haul passenger may be subsidizing the short-haul
passenger on the same fiight. But the added convenience of a through fiight makes
this arrangement highly beneficial to the travelling public.
At the Boston hearings, it was stated that DOT claims there is no cross
subsidy in the present system. I believe that this is a mistaken impression and
that DOT is on record only as opposing cross subsidy. You will no doubt wish
to check this point.
Question 10. Load factor and number of seats.— My testimonv confirms dif-
ferences in number of seats and provides an explanation for the differences. Load
factor differences are not easy to document since PSA has not published load
factors for some years. Air California, however, did report a 1974 system average
load factor of 70.8 percent. As mentioned in No. 3 above, California markets
494
are not typical. Peaks and troughs are not as pronounced. In addition, the Cali-
fornia intrastate carriers do not operate any routes with very low-load factors.
Most trunk and local service airlines still serve cities whose traffic needs were
well served by DC-3 aircraft but whose traffic has not grown over the years. Even
minimum service to these communities results in very low-load factors with to-
day's aircraft — load factors that intrastate carriers never experience.
Senator Kennedy. I would next like to welcome Mr. Richard J.
O'Melia, Acting Chairman of the Civil Aeronautics Board. Mr.
O'Melia has been a member of the CAB staff since 1957. He served as
Assistant to the Office of General Counsel, Deputy Director of the
Bureau of International Affairs and Director of the Board's Bureau
of Enforcement.
Appearino; witli Mr. O'Melia are Thomas J. Heye, Administrative
Assistant to the Chairman ; Arthur H. Sims, Acting Deputy Director
of the Bureau of Economics; and William B. Caldwell, Jr., Director
of the Bureau of Operating Rights.
STATEMENT OF RICHARD J. O'MELIA, ACTING CHAIRMAN, CIVIL
AERONAUTICS BOARD, ACCOMPANIED BY THOMAS J. HEYE,
ADMINISTRATIVE ASSISTANT TO THE CHAIRMAN; ARTHUR H.
SIMMS, ACTING DEPUTY DIRECTOR OF THE BUREAU OF ECO-
NOMICS; AND WILLIAM B. CALDWELL, JR., DIRECTOR OF THE
BUREAU OF OPERATING RIGHTS
Mr. O'Melia. Thank you, Mr. Chairman. I have heard a lot of
mention of the CAB sitting in the back of the room, and just being
appointed Chairman of the CAB, I certainly welcome these hearings,
because if there is a better way to operate the CAB, I certainly welcome
it.
I will cut my prej^ared remarks down to about 2 minutes.
cab's new fare formula
To begin with, let me explain briefly the w^ords "basic ratemaking
approach." This involves the establishment of fares for a large number
of airlines which operate over a competitive and interlining system
involving short-haul and long-haul markets, big cities and small com-
munities, markets which have many passengers and markets which
have only a few passengers. Airline costs vary from market to market
as you have heard this morning and within markets compared to the
carrier.
The competitive markets, of course the economics are such that all
airlines must operate at the same fare irres2:)ective of their own partic-
ular cost. As a result there is no practical way for the Board to tailor
fares so as to meet each airline's own revenue requirement and reflect
the distinct operational characteristics. Instead, the Board established
a uniform fare fornnila, which means that the fares are based on the
revenue requirements of the trunkline industry as a group and fares
with comparable mileages are the same. The system isn't perfect, but
nonetheless represents what the Board has considered to be a reason-
able balance of all the equities.
I direct the subcommittee's attention to my prepai'ed testimony
which includes a more detailed discussion of the industrywide
ratemakine;.
495
DIFFERENCES BETWEEN INTRASTATE AND INTERSTATE SERVICE
Operations by a large intrastate airline such as PSA or Southwest
Airlines involve exactly the opposite considerations. Service by these
airlines is performed in markets which have nearly optimum opera-
tional characteristics. These intrastate operators serve only a few
points, almost all of them large cities, and generally j^rovide com-
muter-type service in markets which generate a large volume of traf-
fic. As a result, these intrastate operators have less need for different
aircraft types to cope with differing traffic densities or stage lengths,
and have little problem with respect to positioning of aircraft. On
the contrary, they can successfully employ wide-bodied aircraft, which
are extremely efficient, they can configure their aircraft for high den-
sity operation, and operate at extremely high load factors.
In other words, the intrastate operators can fine tune their opera-
tion to the special needs of the new markets they serve, and there is
no doubt that they can hold down the costs of operating and as a
result offer service at a very attractive fare.
Clearly, PSA has been able to achieve efficiencies in its Los Angeles-
San Francisco service which the intrastate Texas airline, Southwest.
for example, is unable to match over its routes, and which, in fact, PSA
itself cannot duplicate in its other markets.
I would call the subcommittee's attention to the chart attached to
my prepared testimony with details of comparisons between interstate
operations for a selected month.
CAB POLICY ON FARE COMPETITION
Let me turn, for just a moment, to the question of competitive pric-
ing. A proposal for competitive price often referred to as a flexible
fare formula was presented to the Board in the recent passenger fare
investigation. I have included with my testimony the Board's rather
extensive disposition of that question. I did not participate in the
Board's decisions on that issue, but it seems to me the Board was say-
ing that a flexible fare formula just won't work as long as Congress
wishes to continue to have a regulated system with limited entry.
Let me make one final observation with respect to a regulatory sys-
tem. The Congress has given the Board what I think sliould properly
be described as a balanced mandate, a mandate, in other Avords, to pro-
vide good service to the traveler and shipper at a reasonable price
and with profits to the airlines such to permit their continued growth
and development. The Board's job is always more difficult in times
of economic downturn when airlines seek to reduce service to save
money or raise fares to cover increased costs. But the traveling public
would like to continue the same quality of service and the same fares
that prevailed in better economic times.
The current economic circumstances brought about in large part by
the unprecedented rise of fuel prices is virtually without parallel in
aviation history.
I want to assure this subcommittee that the Board has taken a long
hard look at its regulatory responsibility in light of the drastic change
in economic conditions.
If you have any questions. Senator, we will try and answer them.
496
CAB STATF STUDY OF PSA -TYPE SERVICE
Senator Kennedy. Are you familiar with the 1965 staff study on
PSA ? This study concluded that while using low fares PSA attracted
the traffic of competitors, reduced their fares, brought down average
fares, and expanded total revenue far above what it would have been ;
and, as I understand, during that time PSA made healthy profits.
Are you familiar with that?
Mr. O'Melia. I am familiar with it, but when I don't know an
answer I would like to address it to
Senator Kennedy. Given that kind of result, what takes place in
the Board when you receive a study like that ? What kind of f ollowup
is there when you see something that appears to be working effec-
tively ? It seems that there was a favorable report submitted.
Mr. O'Melia. I am not sure what happened to it because I wasn't
there, but that was an intrastate study, Senator, wdiich the Board had
no regulatory control over the operation of an intrastate air carrier.
So I presume it was a study that was given for information for the
Board members to look at. What they did with it, I have no knowledge.
Senator Kennedy. Would you think that it has any lessons for in-
terstate carriers? Or, is it dismissed out of hand, as something that
works well for intrastate but not interstate?
Mr. O'Melia. As far as I am concerned, if it were brought up to
date now, and I am sure these hearings will bring it up to date, and
as far as I am personally concerned as one Board member, I am very
interested in having that.
Senator Kennedy. What does that really mean, besides interest?
Will you be a little bit more specific?
Mr. O'Melia. Yes, I will. If the ratemaking system which the Board
has evolved over the years has some defects in it based on the cost
studies that you are finding here today are what PSA has, certainly
the airlines might find a way to cut costs and save fuel and if they
can do that the Board as Avell Avill certainly benefit by it.
Senator Kennedy. You do have some influence over these kinds of
efficiencies, don't you ? You could encourage development of a similar
service or give direction to a carrier who wants to duplicate that serv-
ice from Boston to Washington. You could do that, could you not, if
the Board wanted to do it ?
Mr. O'Melia. Yes.
Senator Kennedy. Then you can do something about it.
Mr. O'Melia. Oh, yes, the Board can consider any applications.
Senator Kennedy. Given at least some of these figures, if they hold
up, would you consider it if some other grou^) wanted to come in, not
one of the major trunk carriers, and wanted to provide this kind of
service ?
Mr. O'Melia. Absolutely.
Senator Kennedy. Would you hold a hearing on that ?
Mr. O'Melia. Yes, sir.
Senator Kennedy. Would a PSA-type service work along the east
coast, do you think ?
Mr. O'Melia. Mr. Caldwell, do you have any thoughts on this
question ?
497
Mr. Caldwell. Well, I think one of the problems is, Senator, if you
look at the California situation, particularly since it is older, you
have — it isn't a question of reo;ulations versus no regulations. It is
i-eally the type of regulation. The California PUC, as I understand
their policies, certificate air carriers much like public utilities. You
have one light company, you have one air carrier in each of the major
markets in California. You do not have competitive intrastate laws.
The comeptition that PSA has is furnished by the CAB certificated
carriers as far as the flights go.
I think the occasion for the possibility of duplicating the number
of points and the distances the PSA operates are very remote, indeed,
to find that type of situation in other areas of the United States. You
have, as I think they are representative of one of the two carriers
indicated, they are blessed with much better flying weather than we
find on the east coast or probably in most other portions of the country
except possibly Florida; therefore, they are less apt to spend costly
time in the air between their points, and obviously their costs are
lower. They are not burdened with providing service. They are not
required to have the burden by the PUC of providing service to the
less dense city fares in California.
Now, obviously if you could design a system in the United States
that had an average density that PSA has in California, then, one,
I think its cost structure would be entirely different than what we
see out there today and I think the fares would be different than what
we see today.
CROSS-SUBSIDY AND SMALL TOWN SERVICE
Senator Kennedy. I am going to have to leave at half past 12, but
I want to give the carriers a chance to present their testimony. I won't
be able to finish, but counsel will have additional questions.
As I understand it. DOT has told us there is no cross subsidy. The
ATA indicated they are doing a study. Can we find that out ?
Mr. SiMMS. Well, I can't speak for the Board, Senator.
Senator Kennedy. Can one be done? ATA thinks so.
Mr. SiMMS. Well, I think we certainly can do a study. A lot depends
upon the time parameter
Senator Kennedy. I bet if you did it, it would be a good one.
Mr. SiMMS. A lot depends on the amount of resources we have to
go into.
Could I finish my last point ?
Senator Kennedy. Yes, fine.
Mr. Si^iMS. That is this. That at the present time the Board
subsidized local carriers, ineligible service carriers operate routes
given to them for the purpose of enabling them to make profits which
can be used to cross-subsidize their eligible services. At the present
time, according to the latest figures, the carriers are making excess
earnings on profitable segments that amount to something like $29 mil-
lion. That compares to the overall subsidv need, computed before that,
of something in the areas of $70-$80 million. So that there is some
hard evidence right there that cross-subsidization does exist, and th«t
it can — and that cross-subsidization is a fact.
51-146 O - 76 - pt.
498
Senator Kennedy. If you could do a study of that, I think it would
be extremely helpful.
I would like to make a final point about the differences between-
intrastate and interstate fares. We have mentioned many thinp:s ex-
cept one, which I think is a very important factor. When you come
ri^ht down to it, the significant difference is that the consumer is
offered a low fare without all the frills. More seats and no food and
beverages result in a lower-cost operation ; that cost is passed on to the
consumer, and it has been welcomed by him. They don't seem to com-
plain that there are no first-class seats, or that they are not getting a
variety of services. I can't understand why consumers in other parts of
the country aren't entitled at least to that choice.
We can talk about all these other facts, about Avhether the weather
variations result in higher costs, or the time in the air. or density
factors.
We find out less-dense areas out in California are making a profit.
We find that the kinds of planes the airlines use are just about the
same, that neither the time in the air, nor the weather make a great
deal of difference. But there is a significant difference in the number
of seats, the elimination of hrst class and all the frills, and it does
show up in terms of price to the consumer. The public is not offered
that choice in other parts of the country, and the real question is what
can be done.
One alternative is to go completely without any regulations. Another
is to move toward permitting the development of alternative services.
I appreciate your presence here, and I apologize that we are not
able to continue at this time.
If you want to make any comments or responses I will be glad to
hear them.
Mr. O'Melia. I want to sav we will he. glad to work with vour
staff.
Senator Kennedy. Thank you, Mr. Chairman. It is kind of you to be
with us this morning.
Commissioner Murphy, I Avant to thank you very much for coming
up in response to these questions.
[The statement of Richard O'Melia follows:]
Prepared Statement of Richard J. O'Melia
Senator Kennedy, this is my first appearance before this subcommittee as the
Acting Chairman of the Civil Aeronautics Board. The hearings you have con-
vened are exploring a number of facets of cardinal importance to the work of the
Board. I am pleased to be here to contribute to the efforts of this subcommittee
to conduct an incisive and productive examination of the Board and its processes,
and can assure you that we will study with great attention the views expressed
in these hearings and the report that your subcommittee will issue as a result
of these hearings.
We have been advised by your staff that the topic for this session of the
hearings is a comparison of state and Federal regulation of air transport and
a comparison of interstate air fares and intrastate air fares. I would like to
offer a few preliminary observations of a general nature concerning this topic
before entering into a more detailed look at the question of intrastate and
interstate fares.
As this subcommittee is aware, I was appointed a member of the Board in
November 1973, and was designated by the President as Vice Chairman, and
accordingly Acting Chairman, effective at the beginning of last month. As a
499
result I have not had personal experience of long duration with some of the
Board's actions affecting this subject. In particular, I was not a member of the
Board at the time the basic decisions were made in the Board's Domestic Pas-
senger Fare Investigation, which have great pertinence to our topic. Neverthe-
less, I want to try to set forth the problem and issues involved in the most direct
manner possible.
Before entering into the question of intrastate and interstate fares, which
is the specific subject under discussion, let me mention briefly the authority
which Congress has given the Board in the Federal Aviation Act. In that Act,
Congress charged the Board with tlae taslc of encouraging the development of
an economically sound air transportation system designed to meet the needs of
the domestic and foreign commerce, of the Postal Service, and of the national
defense. However, the Federal Aviation Act does not, by its terms, give the
Board comprehensive authority over all air transport regulation. Instead,
Congress has left, to use a phrase often quoted, "a residuum of power in the
states to mal<;e laws governing matters of local concern * * *."
Now, although the Board's authority is limited by statute, its responsibilities
and objectives are nonetheless nationwide in scope. The states, on the other hand,
have responsibilities and objectives which are much more limited. Therefore,
Mr. Chairman, in examining the question of why intrastate fares are lower
than interstate fares, we must remember that the regulatory responsibility
established for the Board by the Congress involves the nation as a whole, and
is not necessarily the j-ame as a state may establish within its own borders.
Furthermore, and even more important, I believe that the basic economic charac-
teristics affecting intra.state operations by carriers like PSA or Southwest are
quite different from those affecting interstate operations by carriers regulated
by the Board. With these general considerations in mind, let me now discuss
briefly the pricing considerations with respect to airlines subject to the Board's
jurisdiction and then contrast them with pricing considerations affecting the
intrastate operators.
Pricing considerations of interstate carriers
To begin with, let me explain briefly the Board's basic ratemaking approach.
That approach necessarily involves the establishment of faires for a large number
of airlines which operate over a competitive and interlacing route system. That
route system comprises short-haul and long-haul markets ; big cities and small
communities ; markets which have many passengers ; and markets which have
very few passengers. Since the certificated airlines Serve basically a linear route
system, and often connect more than two points on a single flight, their equipment
cannot be tailored to the needs of each individual market on a route. Airline costs
also vary from market to market, and within markets from carrier to carrier. In
competitive market, of course, the economics are such that all carriers must
operate at the same fare irrespective of their own particular costs. As a result,
there simply is no practical way for the Board to tailor fares so as to meet each
carrier's own revenue requirements and reflect the distinct braflBc and operational
characteristics of each city-pair market. On the other hand, under the Board's
statutory mandate from Congress — particularly section 1002(e)(5) — the Board
is required to take into account the need of each carrier for revenue sufficient to
operate adequate and efficient air service under what the statutes describes as
"honest, economical, and efficient management * * * ." Faced with the problem
of how to reconcile the statutory mandate to consider the need of each carrier
with the hard fact that fares cannot be regulated on an individual basis, the
Board has concluded that an industry-wide approach to ratemaking reflects a
reasonably good balance between the needs of all of the airlines on the one hand,
and the Board's obligations to insure satisfactory, low-cost air transportation to
the nation on the other. As a result, the Board's ratemaking approach is based
on the need of the industry as a group, rather than any individual carrier, and is
also based on mileage rather than the unique characteristics of particular mar-
kets. The system isn't perfect, but nonetheless represents what the Board has con-
sidered to be a reasonable balance of all the equities. This general industry-wide
approach to ratemaking, I might add, was established by the Board in the Gen-
eral Passenger Fare Investigation in 1960 and was not challenged in the recent
Domestic Passenger Fare Investigation in 1970. I am submitting for the subcom-
mittee's information those sections of those two decisions which explain industry-
wide ratemaking in somewhat greater detail (see appendixes 1, 2 and 3 herewith) .
500
Pricing considerations of intrastate carriers
Operations by a large intrastate airline such as PSA or Southwest Airlines
involve exactly the opposite considerations. Service by these airlines is performed
in markets which have nearly optimum operational characteristics. These intra-
state operators serve only a few points, almost all of them large cities, and gen-
erally provide commuter-type service in markets which generate a large volume
of traffic. As a result, these intrastate operators have less need for different air-
craft types to cope with differing traffic densities or stage lengths, and have
little problem with respect to positioning of aircraft. On the contrary, they can
successfully employ wide-bodied aircraft, which are extremely efficient, they can
configure their aircraft for high density operation, operate at extremely high-
load factors and achieve a high degree of aircraft utilization. Let me give you
two comparisons in this regard, one dealing with load factors, the other dealing
with station utilization. In 1973, the certificated industry had a coach load factor
of 52.4 percent. By way of comparison, a decision issued by the California Public
Utilities Commission in April 1974 indicated that Air California, another intra-
California operator, had load factors in 1973 averaging 67 percent — or almost 15
points above the certificated industry average. Similarly, the trunkline industry
in 1972 averaged about 262,000 passenger enplanements per station, and Ameri-
can Airlines, which had the most passengers per station, had just under 400,000.
PSA, on the other hand, averaged 545,000 passengers per station in 1972. Now that
translates into a highly efficient operation. Undoubtedly, the lack of Federal regu-
latory requirements, including reporting requirements, and the lack of expenses
associated with interline ticketing and reservations involved in the many two-
carrier services provided over the interstate system, also reduce the cost of op-
erations by the intrastate carrier to some degree. And I am inclined to believe
that it is easier to manage a small, reasonably self-contained system than it is to
manage a nationwide route system. All of these factors help to hold down the
cost of operating and permit airlines like PSA or Southwest to offer very attrac-
tive fares.
Having said all of that, I would like to make one point which I think is often
overlooked. The table below (table 1) shows that the intrastate carriers, in these
higher density markets, operate at generally lower fares than the carriers regu-
lated by the Board. However, there are differences even among intrastate car-
riers. For example, PSA, on the West Coast, operates in the 3.38 mile Los Angeles-
San Francisco market — which is the largest in the world in terms of passengers —
at a per-mile fare of about HVo cents. The per-mile fare increases to 8.6 cents in
the 209 mile Los Angeles-Fresno market, which is shorter and has less traffic. On
the other hand. Southwest Airlines operates between Houston and San Antonio
at a regular, daytime per-mile fare of over 12 cents. Clearly PSA has been able
to achieve efficiencies in its Los Angeles-San Francisco operation which the intra-
state Texas airline is unable to match and which, in fact, PSA itself cannot dupli-
cate in other of its markets. It is also likely that a carrier like PSA could not
duplicate its San Francisco-Los Angeles success in the northeast corridor
markets.
Nevertheless, I think that everyone is willing to agree that passengers in high
density markets regulated by the Board — such as Boston-New York or Boston-
Washington, for example — may pay a little more than they would if these mar-
kets were served only by airlines which could tailor their operations more closely
to the special requirements of these routes. One of the results of the current sys-
tem of regulation, after all, is that fares of comparable mileages are the same
notwithstanding the particular economic characteristics of the markets involved,
including the number of passengers in the markets. However, any attempt to
adjust the uniform fare formula so as to account for market characteristics
could produce some highly anomalous results. For example, a particular low-cost
market may have several intermediate points not sharing the low-cost character-
istics. If the fare in the low-cost market were adjusted downward, passengers
traveling to the intermediate points could well be required to pay a higher fare
than passengers traveling to the more distant point in the low-cost market. Simi-
larly, while passengers in low-cost markets would probably continue to get multi-
frequency competitive service, with modern jet equipment, at a somewhat lower
fare, travelers to smaller communities — places like Worcester or Hartford —
might well get higher fares, or perhaps smaller or non-jet equipment. Although
that might be more efficient if looked at only from the perspective of air transpor-
tation economics, the effect on the overall economic health of these smaller com-
501
munities is not as easy to predict. The potential problems are legion, but I think it
is fair to say that it is not feasible to consider a particular market in isolation in
view of the extensive route system now being operated.
Board policies affecting fare levels
Let me point out, in this regard, Mr. Chairman, that the Board has specifically
considered the possibility of establishing fares on a flexible basis in order to
allow carriers to match fares to the costs in particular markets. That proposal
was recently presented in the Domestic Passenger Fare Investigation by the
Departments of Justice and Transportation, among others. Basically, it was
argued that the Board should allow airlines the flexibility to set fares within
a zone ranging above and below the fares found reasonable by the Board. The
adoption of such a procedure, it was contended, would inject a measure of price
competition into the setting of air fares and would permit individual airlines
the opportunity to tailor their fares to the specific needs of particular markets.
The Board rejected the proposal, and I have included among the materials sub-
mitted to the subcommittee that portion of the Board's decision which deals
with that subject. Let me outline the Board's conclusions briefly.
The Board observed, in the first place, that for over thirty years prior to its
decision in the Domestic Passenger Fare Investigation, it had never established
a general passenger fare level or structure. As a result, between 1938 and 1970,
the airlines had been free to file tariffs proposing changes in their normal fares,
either upward or downward. However, as a factual matter, the only proposals
submitted by the airlines during the entire period were increases in fares. Price
competition in normal fares, in other words, has been virtually nonexistent. And
this is really not surprising. Carriers do not engage in price competition because
they ordinarily cannot expect any significant advantage from such action. Com-
petitors, after all, are always free to match any reduction in fares and, as a
result, a carrier cannot expect that a fare reduction will increase its competitive
position or generate sufficient additional trafl3c to offset the decline in overall
yield. This result flows inevitably from the character of the airline industry.
Congress has subjected to regulation and control both entry into the industry
and entry into individual markets, with the result that the number of competitors
over individual routes is necessarily limited. As long as Congress wishes to retain
a regulated system, with limited entry, and designed to provide air service across
the nation and not merely to big cities or in heavily traveled markets, it is simply
not realistic to expect pricing behavior representative of a truly competitive
market structure. On the other hand, it is virtually certain that the so-called
flexible fare approach would inevitably lead to an overall fare level in excess of
that found reasonable by the Board. The flexible fare proposal, in short, would
be simply a license for the carriers to raise their fares to the traveling public
without submitting those fare increases to the Board and there would be no
incentive to keep fares below the maximum level permitted. The Board's use of
average industry costs at least gives each airline the incentive to keep its own
costs as low as possible. The bigger the difference, after all, between an individual
carrier's co.sts, on the one hand, and industry average costs, on the other, the
greater the profits for the individual airline. That is a pretty powerful incentive.
Let me make one final observation about the regulated system. The Congress
has given the Board what I think should properly be described as a balanced
mandate — a mandate, in other words, to provide good service to the traveler
and shipper, at a reasonable price, and with reasonable profits to the industry.
When that mandate gets out of balance, I think it is up to the Board to bring
it back into balance. The Board's job is always more difficult in times of eco-
nomic downturn, when airlines want to reduce service to save fuel or money,
and increase fares to cover increased costs, but the traveling public would like
to continue the same quality of service and the same fares that prevailed in
better economic times.
The current economic circumstances, brought about in large part by the
unprecedented rise in fuel prices, is virtually without parallel in aviation history.
But I want to assure this subcommittee that the Board is taking a long hard
look at its regulatory responsibilities in light of the drastically changing eco-
nomic circumstances. In this connection, you may be interested to know, Mr.
Chairman, that the Board has established a special, independent staff to study
the effectiveness of Federal economic regulation with respect to air transporta-
tion. Dr. Lucile Keyes, a distinguished economist, has accepted the Board's
502
invitation to serve as an economic consultant to the staff. And we shall also
take a long hard look at our responsibilities in light of the information that
comes out of these subcommittee hearings. My experience on the Board's staff,
and most recently as one of the Board's members, convinces me that the Board
can respond creatively to the challenges and responsibilities which the Congress
has placed upon our shoulders.
TABLE l.-COMPARISON OF FARE RATES FOR CAB-REGULATED AND NON-CAB-REGULATED CARRIERS IN SELECTED
MARKETS
Fare per
Fare per
Coach
Elapsed
mile
minute
Carrier
fare
Mileage
time '
(In cents) (in cents)
Comments
Northeast corridor
interstate
markets:
BOS-NYC(LGA)-.
. EA,AA, NA, NE...
$25. 93
185
:49
14.02
52.91
DL
24.07
185
:49
13.01
49.12
EA -
20.37
185
:49
11.01
41.57
Night coach.
NYC-WAS(DCA)-
. EA.AA -.
27.78
214
:54
12.98
51.44
BOS-WAS (DCA).
Selected Intrastate
EA, AA
41.67
399
1:07
10.44
60.19
markets :
California
LAX-SFO
. PS ..—
18.75
338
:55
5.55
34.09
LAX-FAT
_ PS -
18.01
209
.45
8.62
40.02
LAX-SMF
. PS
20.47
373
1:00
5.49
34.12
SFO-SMF
. PS..
9.73
86
•,30
11.31
32.43
SMF-SJC
. OC
11.48
94
:25
12.21
45.92
DAL-HOU..—
. WN-..
13.89
241
:50
5.76
27.78
Weekends and
evenings.
Weekdays.
WN
2.^. 15
241
:50
9.61
46.30
DAL-SAT
. WN
13. 89
250
:50
5.56
27.78
Weekends and
evenings.
WN
23.15
250
:50
9.26
46.30
Weekdays.
HOU-SAT
- WN....
13.89
191
:40
7.27
34.73
Weekdays and
evenings.
WN...
23.15
191
:40
12.12
57.87
Weekdays.
> Fastest block time between 1700 and 1900 hours, unless otherwise appropriate.
Key: AA=American; DL=Delta; EA=Eastern; OC=Air California; WN=Southwest Airlines; PS = Pacific Southwest
Airlines; BOS=Boston; DAL=Dallas Fort Worth; FAT=Fresno; HOU = Houston; LAX=Los Angeles; NYC=New York;
SAT=San Antonio; SFO=San Francisco; SJC=San Jose; SMF=Sacramento; OAG=QRE, January 1975.
[Appendix 1]
Before the Civil Aeronautics Board, Washington, D.C.
[Docket 2186&-7]
(71-4-59)
(71-4-60)
Domestic Passenger Fare Investigation— Phase 7
(Pages 70-72)
Decided April 9, 1971
general conclusions
Unit of ratemaking. — In determining the reasonableness of the overall fare
level in any given point of time, we are faced with the fact that we are deal-
ing with a large number of carriers who operate in a highly competitive in-
terlacing route system and that fares cannot be individually tailored to meet
each carrier's own revenue requirements. In its 1960 decision in docket 8008,^""
the Board noted that while section 1002(e) (5) enjoined it to take into considera-
tion "each" carrier's need, a large part of the domestic route structure is served
by two or more carriers in competition and that fares inevitably will be uniform
102 General Passenger Fare Investigation, 32 CAB 291 (1960).
503
as between them, notwithstanding that one carrier's revenue need may be less
than another's."^ In considering what it deemed the vexing problem of how to
reconcile the statutory mandate to consider the need of "each" carrier and the
hard fact that fares cannot be regulated on an individual basis, the Board re-
jected the concept that the fares should be established at levels to meet the
need of the most poorly-situated carriers. Such a standard was held to be in-
consistent with the standards of section 1002(e) (1) (the effect of rates on move-
ment of traffic) and section 1002(e)(2) (the need for transportation at the
lowest cost). The Board also considered that such a standard would be con-
trary to the mandate of section 1002(e) (5) in that to use the most poorly sit-
uated carrier as the unit of ratemaking would result in the va.st majority of
the public paying rates in excess of the cost of furnishing the transportation.
By the same token, the Board noted that it cannot fix fare levels at the need
of the most favorably-situated carrier, since such a standard would have a dis-
astrous impact upon the bulk of the carriers and upon the development of air
transportation generally.
Accordingly, in consideration of the foregoing, the Board concluded that in the
absence of special circumstances, fares which meet the needs of the domestic
trunkline industry as a whole would reflect a balancing of the needs of the
high- and low-cost carriers, and that where the bulk of the carriers fall within
a reasonable range of the standard rate of return and the industry figures are
not distorted by the results of unrepresentative carriers, fare adjustments should
normally be based upon the results of the industry as a group. This standard
does not appear to be challenged in this proceeding, is found reasonable, and is
employed herein in our determination of the reasonable fare levels.
A special problem involves the extent to which local service carriers should
be considered in fixing the overall fare level. Generally, these carriers operate
predominantly short-haul services in the less-dense trafl5c markets. As a class,
these carriers have never been able to realize a sufficient level of passenger
revenues to meet the costs of passenger services and they require government
support in the form of subsidy in order to furnish their services.^*^ Our de-
termination as to the required adjustments does not take into account the needs
of the local service carriers. The local service carriers accounted for only 6.6
percent of the total revenue passenger miles in scheduled domestic air trans-
portation in 1969, and their revenue requirements are not representative of the
industry as a whole. To include them in the industry results would have a dis-
tortionary effect on the fare level since, in the absence of an adjustment in the
fare structure or in the divisions of joint fares, the bulk of the need of the
local service carriers would be reflected in the trunkline passenger fares. Ac-
cordingly, while we have set forth in the appendixes the impact on the local serv-
ice carriers of the fare adjustments found reasonable herein, the adjustments
have been based solely upon the requirements of the trunklines.
[Appendix 2]
Before the Civil Aeronautics Board, Washington, D.C.
[Docket 21866-9]
(74-3-82)
Domestic Passenger Fare Investigation — Phase 9
(Pages 108-22)
Decided March 18, 1974
FARE FLEXIBILITY
A number of proposals have been put forward to allow carriers flexibility to
set fares within a zone ranging both above and below the fares found reasonable
in this proceeding, and for fares within this zone to be deemed reasonable per
se. The principal proponents of such a zone are DOJ, DOT, and American. These
parties advocate a zone of 15 percent above to 15 percent below the formula-
W3 32 CAB 329.
10* The estimated level of subsidy for fiscal 1971 Is $58.6 million. See order 71-1-143,
January 29, 1971.
504
determined fares. Other proposals are advanced by Delta, Continential MOC,
and the Bureau. Delta and Continental support flexibility within a range of
plus or minus 5 percent of formula-determined fares.^" MOC supports establish-
ment of a minimum fare level 15 percent below its formula fare. The Bureau
supports a range of plus or minus 5 percent ; however, unlike the other zone
proposals, fares filed within the Bureau's zone would be only prima facie reason-
able.^^ Adoption of a fare zone is opposed by United, Eastern, Northwest, TWA,
NARUC, and the State of Wisconsin. Judge Johnson found that none of the
zone proposals should be adopted.
Upon consideration, we find we are in agreement with Judge Johnson's rejec-
tion of these proposals, although for somewhat different reasons.
DOJ supports adoption of maximum and minimum fare levels as a means of
stimulating price competition in the domestic air transportation industry. The
Department believes that increasing managements' pricing discretion will en-
courage eflScient operations, and lessen disparities in carrier earnings resulting
from differences in route structure and other factors beyond management control.
DOJ also believes that the availability of price competition will reduce the indus-
try's present tendency to channel competitive forces into expensive service rivalry.
Additionally, the Department expects carriers to utilize increased pricing free-
dom to experiment with fares in order to build traffic, and to adjust fares without
regulatory lag to rapid changes in supply and demand. Lastly, the Department
argues that giving carriers more pricing latitude will reduce the regulatory bur-
den on the Board, and enable the Board to better carry out its statutory mandate.
DOJ's support of the zone concept is predicated on its belief that fares in the
past have been set by a process which results in a uniform Board-established and
enforced fare structure. The Department believes that this system of uniform
pricing has forced competition into nonprice areas, e.g., fiight frequencies, equip-
ment types, seating configurations, and other service amenities, resulting in a
constantly improving quality of service, but at significantly increasing cost."'
The Department believes that the public, if free to choose, would prefer a lesser
quality of service at prices reflecting its lower cost. Competitive pricing, it
argues, would permit carriers to experiment with fares and service to deter-
mine what combination of price and service is most preferred in particular
markets.
The DOT supports fare flexibility because, in its view, a simple fare-taper
formula is inadequate to provide the optimal fare for all city-pair markets. The
record in this proceeding shows that costs vary considerably from market to
market, and within markets from carrier to carrier. A simple fare-taper formula
cannot, however, accommodate these variations. The Department believes, there-
fore, that carriers should be free to vary fares in individual markets based upon
perceived costs, and upon marketing judgments as to what quality of service the
public desires. Market response to carrier decisions would then guide fares. The
Department argues that fares which do not reflect costs in each market are unfair
either to the public or to the carrier. If the fare is below cost at the optimum
level of service, either the carrier will be denied revenue to which it is entitled,
or the quality of service will be reduced so that costs may be recovered. If the
fare exceeds cost at the appropriate level of service, the public is denied a fare
at the lowest cost consistent with furnishing the service. In the Department's
1" North Central, in its brief, in3ic.ited tliat it does not except to the adoption of a
5-percent range above and below tie fare curve within which fare filings would be con-
sidered prima facie reasonable, pnvided the flexibility afforded by the range is closely
monitored to prevent predatory pra :tices.
155 The Bureau indicates that its zone proposal is intended to give carriers flexibility to
file fares within a narrow range both above and below formula-determined fares without
those fares being subject to rejection under the final order in this Investigation. Such fares
would, however, remain subject to suspension and investigation. In view of the fact that,
as discussed elsewhere herein, we have determined not to adopt an order which prescribes
specific fares for the future, with exceptions not here material, carriers will not need to
seek modification or an outstanding rate order before filing certain "nonconforming"
tariffs. Accordingly, we find the Bureau's proposal moot, and it is not further considered
therein.
isflThe Department further argues that Board-imposed uniform fares have contributed
to the economic disparities that exist between carriers. The Department believes that a
uniformly-applied fare formula cannot take into account cost differences that exist between
markets, and therefore, tends permanently to relegate some carriers to below-average
earnings and others to above-average earnings.
Factors cited by the Department as affecting the comparative cost of service between
markets but not easily accommodated in a simple fare-taper formula include route density,
congestion, traffic peaks, and equipment types. The Department concludes that where a
uniform fare formula is utilized, the most important determinant of a carrier's profit-
ability is its route structure.
505
view, a single industry-wide fare formula cannot avoid these problems. However,
rather than have the Board attempt to set fares on a market-by-market basis, or
examine individually the numerous cost- justified deviations from formula-deter-
mined fares, the Department believes the Board should give the carriers broad
flexibility to adjust fares to costs on a market-by-market basis. In this way, the
Board would be spared the necessity of passing on the reasonableness of numerous
individual fare filings, and carriers could avoid regulatory lag in changing or
modifying fares to track with movements in the level and structure of costs.
Finally, DOT advocates fare flexibility as a means of enabling carriers to deter-
mine the optimal price/quality relationship in each market. In the Department's
view, there are considerable variations in desirable service quality between mar-
kets of similar distance.^" Use of an industry-wide fare formula, however, pro-
duces the same quality of service in markets of similar distance regardless of the
inherent differences in the market's service needs.
American supports fare flexibility because it believes that a fare structure based
upon approximations of industry average costs is inadequate for determining the
^appropriate fare in particular markets. American, like DOT, contends that since
costs vary considerably from market to market, equitable treatment for pas-
sengers and carriers requires that carriers be given meaningful pricing flexibility
in order that these cost variations may be reflected in the fare structure."*
American also argues that far^ flexibility will permit carriers to test fares in the
marketplace and thereby determine their effect on trafllc.^"
Continental supports fare flexibility as a means of enabling carriers more
easily to adjust fares in individual markets to reflect marketing considerations,
and to encourage price competition. Continental believes that price elasticity
varies from market to market, and that carriers need increased pricing discre-
tion to react to marketing realities."" Continental argues that under the statute
fares are supposed to reflect not only costs, but value of service principles as
well. Strict adherence to a uniform fare formula, however, inhibits manage-
ments' ability to reflect value of service considerations in the fare structure.
Continental supports increased opportunities for price competition so carriers
will not have to come to the Board every time they want to introduce a fare
reduction.
Delta supports fare flexibility limited to plus or minus 5 percent of formula
fares because it believes that such a range more nearly corresponds to costs
than does a single formula-determined fare. Delta argues that, in view of the
numerous judgmental factors involved in mileage block costing, the best that
can be expected with reasonable assurance of accuracy is development of a cost
band or profile. Delta believes that after an initial stabilizing period,"^ carriers
should be free to adjust fares within this band without the fares being subject
to suspension on reasonableness grounds.
1S7 D0T-T-.3. The variations are the result of difference in passenger density and type of
traffic. The Department believes that In dense markets passengers would prefer lower-
than-average fares and higher load factors, and the converse in less-dense markets. Like-
wise, the Department believes business passengers would be willing to pay higher fares
for more frequent service, and vacation travelers would accept higher load factors in
return for a lower fare.
^S8 American's contention is that the Bureau's costing methodology produces only esti-
mates of average trunkline costs, which, like all averages, tend to mask the wide cost
variations that exist between markets. American concedes that the inherent limitations
of the regulatory process make it unrealistic ^o attempt to determine the cost of domestic
air transportation on a market-by-market basis. However, rather than ignore the cost
variation, as American alleges an industry-wide fare formula does, the carrier contends
that the practical way to reflect cost variations in the fare structure is by giving carriers
sufficient flexibility to adjust fares to perceived costs on a market-by -market basis.
1^ In conjunction with this expectation, American refers to the oft-repeated argument
in this proceeding that short-haul fares cannot be raised to the level of short-haul costs
without adversely affecting traffic in those markets. American contends that this generaliza-
tion is deceptive and without convincing support in the record. American believes Instead
that elasticity varies from market to market, and supports fare flexibility as a means of
permitting carriers to increase fares in those short-haul markets where to do so would
not significantly aflfect trafltic.
160 por example. Continental points out that in some markets carriers compete against
ground transportation. In such markets, Continental believes carriers would utilize fare
flexibility to lower fares to attract more traflic. Likewise, flexibility would permit fare
decreases in vacation-oriented markets in order to attract added traffic. On the other hand,
in business markets, carriers could increase fares to compen:-.ate for the lower fares in
more price-sensitive markets.
^«i Delta proposes that formula-determined coach fares and other basic fares based
upon percentage relationships to the coach fare remain in effect without change for a
period of 6 months following the final order in this investigation.
506
In general, the parties which oppose fare flexibility argue that the proposals
in effect constitute a deregulation of air transiportation and are inconsistent with
the policies of the Act. Some express concern that the adoption of such a pro-
posal could result in discrimination between passengers traveling in different
markets. Finally, the carriers opposing flexibility argue that it could result in
economically destructive competition. They are concerned that in competitive
markets fares will necessarily fall to the bottom of the zone resulting in inade-
quate earnings for the industry.
Upon consideration of the foregoing, the Board has determined to afl5rm
Judge Johnson's rejection of the various zone proposals.
In general, the proposals rest on an erroneous understanding of the Board's
past practices with respect to fare policy, and on unrealistic assumptions as to
how the industry would respond to a policy of partial deregulation of fares. In
our opinion, adoption of any of these propsals would be tantamount to abdicat-
ing our statutory responsibility to protect the public interest in reasonable fares.
Moreover, we believe that the proposals would inevitably lead to an irrational
and inequitable fare structure and to an unwarranted escalation of the fare
level.
As previously noted, DOJ's position rests on its contention that the historic
absence of price competition in the domestic air transportation industry is
largely the result of a uniform Board-established and enforced fare structure.
Eliminate the Board-enforced rigidity, says DOJ, and the carriers will engage
in price competition rather than costly service competition. However, the facts
do not fit the theory. The facts are that until this proceeding, the Board had
never prescribed a general domestic passenger-fare level, or minimum or maxi-
mum levels. Under section 1002(d) of the Act, although the Board is empowered
to establish reasonable fares, it may do so only after finding the existing fare
level unlawful. While the Board has adjudicated the reasonableness of numerous
individual fare proposals, prior to the issuance of the opinion and order in Phase
7 of this DPFI,^*" it had never before found the existing general passenger-fare
level unlawful.^"^ Consequently, until this proceeding, it has never had occasion
to prescribe a general domestic passenger-fare level or structure.
Thus, for over thirty years the carriers have been free to file tariffs proposing
changes in their normal fares, either upward or downward, subject to the
Board's power to suspend and investigate. The history of carrier-initiated fares
under this regime inspires little confidence in the likely end-results of the zone
proposals. For, aside from the patchwork fare structure which evolved, the
fact is that, for all practical purposes, the only proposals to adjust normal fares
during this entire period involved increases.^" Price competition in normal fares
has been virtually nonexistent.^^
Indeed, even in Phase 7 of this proceeding, when the Board for the first time
established a general constraint on future domestic fare filings, we imposed a
maximum fare level only,^*^ in an effort to afford managerial discretion in im-
plementing fare changes. The carriers' response to this pricing discretion, how-
ever, was to raise virtually all basic fares to the maximum level permitted, and
to continue their intensive nonprice competition, as well as price competition
in the form of discount fares.
It is clear, therefore, that the general absence of price competition in normal
fares is not, as alleged, the result of a Board-imposed fare structure. Rather,
it is directly attributable to the economic structu'-e of the industry. Carriers
have demonstrated little inclination to engage in su'i'h price competition because
they normally can expect no significant advantage from such action. Competitors
are always free to match any fare reduction, and as a result, a carrier cannot
i«2 Order 71-4-60 dated April 9. 1971. , ^„
lo^in the Suspended Passenger-Fare Increase case, 25 CAB .511 (1957), the Board, while
not finding the existing fare level unlawful, did find that tariffs proposing Increases in
substantially all domestic fare levels were uniust and unreasonable. The decision did
not result in a Board prescription of fares for future application, but only in the cancel-
lation of the proposed increases.
i«* Exceptions to the rule are three across-the-board fare decreases implemented during
World War II. These reductions were not, however, the result of intercarrier price com-
petition, but were in response to orders to show cause why passenger fares should not be
reduced. See e.g., order 2164, adopted February 27, 194,3. Also, it should be emphasized
that the above discussion is concerned with standard-class fares, and does not consider
carrier proposals for introduction of new lower-cost forms of service at fare levels below
existing fares, e.g., the introduction of coach service by Capitol Airlines in 1948 at a level
approximately 2 cents below first-class passenger-mile rates.
16.5 In recent years, the curriers have, however, engaged in extensive discount fare com-
petition which was the subject of our exhaustive opinion in Phase 5 of this investigation,
and is not further considered herein.
i«« Orders 71-4-59 and -60, p. 80.
507
expect a fare decrease to improve its market share and consequently its com-
petitive position. As a consequence, reductions in normal fares can only lead to
a reduced passenger-mile yield and, unless traffic expands substantially, to reduc-
tions in carrier earnings. And, as the evidence in Phase 7 indicates, normal-tare
traffic appears to be relatively inelastic with the result that general fare reduc-
tions do not generate sufficient additional traffic to offset the decline in overall
yield.
Also of significance in explaining the absence of normal-fare price competition
between air carriers, and a fact with which the proponents of fare flexibility
not come to grips, is the character of the industry. Congress has subjected to
regulation and control both entry into the industry and entry into individual
markets, with the result that the number of competitors over individual routes
is necessarily limited. The Congressional purpose was to enable the Board to
prevent excessive competition which, because it is uneconomic, would inevitably
drive up fares. As a consequence, effective competition on all but a few individ-
ual city-pair markets is confined to a relatively limited number of carriers — and
many markets are served by only one carrier.^"^ Under these circumstances, to
expect pricing behavior representative of a truly competitive market structure
is ingenuous at best, and it is therefore not surprising that competition in basic
fares has been virtually nonexistent.
The second failing of the zone proposals is that they are premised on unrealistic
assumptions as to how carrier managements are likely to respond. In general,
two different types of pricing responses are predicted by the zones proponents.
First, they expect that the deregulation of fares within a zone of plus or
minus 15 percent of the formula fares will encourage price competition ; and
second, they support fare flexibility as a means of permitting carriers to adjust
fares to the level of costs on a market basis.
Although the proponents of fare flexibility anticipate it will encourage price
competition, for the reasons outlined above, we believe instead that carrier
managements will react to this form of pricing flexibility in the same manner
they have always reacte<l to the extensive flexibility which they have historically
been afforded, and that is to compete on the basis of service rather than price,
on the other hand, a policy which automatically permits carriers to adjust fares
to levels 15 percent above the formula will enable the carriers to increase fares
to levels far in excess of cost plus a fair return. There is no reason to believe
that the carriers will not avail themselves of this opportunity, the resultant
excessive earnings inevitably being used to finance additional service competition.
In any event, insofar as the different price-service levels predicted to result
from increased price competition merely represent introduction of lower cost
forms of service — such as with more densely configured aircraft — nothing pre-
vents carriers from introducing such services at appropriate fares. The fare
structure we are adopting herein is applicable only to existing forms of service.
However, to the extent the price-service differentials envisioned by DOJ and
DOT contemplate carriers competing over the same routes on the basis of high-
load factor/low-price service versus low-load factor/high-price service, there is
no evidence that such competition would take place. Without further belaboring
the point, it may again be noted that for over thirty years the carriers have
been free to offer prices different from those of their competitors, but with
insignificant exceptions, airline fares have always been uniform. Again, this
phenomenon is hardly surprising. Assuming that a particular carrier were to
reduce its fares predicated on achieving a higher-load factor, other competing
carriers would be compelled to reduce their fares, the result being that all car-
riers would have to achieve a higher load factor if earnings were not to be ad-
versely affected. Thus, the public would not have a choice of different prices, but
would be forced to pay for whatever level of service could be economically pro-
vided at the established fare. We are at a loss to perceive how this result squares
with our obligation under section 1002(e) (2) to take into account "the need in
the public interest of adequate and efficient transportation of persons and prop-
erty * * * at the lowest cost consistent with the furnishing of such service."
American, on the other hand, indicates that it would not expect price compe-
tition to result in carriers competing in the same market by offering different
fares. Rather, American anticipates that price competition, while producing
uniform fares, will result in a greater emphasis on efficiency. However, why a
carrier would reduce its fares, and concurrently its yield per passenger-mile, when
to do so would not increase its market .share, is not all clear, since the result of
such action would be that the carrier earns less money than it did prior to the
See exhibit TW-9-T-B.
508
fare decrease. American concedes this point, but fails to adequately explain why
a carrier would still act in a manner likely to decrease its revenues.
Nor is there any likelihood that under fare flexibility carriers will adjust fares
to the level of actual costs on a market-by-market basis, that fare reductions
would be made in those markets in which actual costs are below industry average
cost for the stage length involved, or that fares would be raised only in markets
where costs or other justification exists. Managements' basic incentive is the
maximization of revenues, and not adjusting fares to costs. Accordingly, in mar-
kets where the value of service exceeds the formula fare, carriers would seek to
raise fares to the maximum amount permitted resulting in fares based upon
whatever the traffic will bear, irrespective of the cost of service.
In sum, we are forced to conclude that the zone proposals essentially constitute
thinly-veiled efforts to eliminate meaningful regulation of passenger fares. The
proposals themselves contain no safeguards to prevent unreasonable increases in
the overall fare level. Moreover, adoption of a fare zone would nullify our
laborious efforts to achieve a rational, equitable and cost-oriented fare structure.
Finally, much of the concern of the proponents of a zone concept of regulation
is related to the fear that a detailed Board prescription of the specific fares to be
charged in the future would create intolerable rigidities. Such an order woulu,
until amended, preclude the filing of fare changes, and amendments could, in many
instances, necessitate evidentiary hearings. A fare prescription order which per-
mitted deviations within a zone would permit a degree of carrier-initiated fare
change without procedural impediments. However, as detailetl elsewhere in this
opinion, our order, for the most part, will not contain a prescription of specific
fares to be charged for an indefinite future period. Instead, we have determined
not to restrict the carriers' freedom to file tariffs proposing fare level changes,
or to propose structural changes that have the effect of bringing the fare curve
closer to the cost curve at all distances. We will, however, restrict the carriers'
discretion to propose structural changes which have the effect of moving the
fare curve farther from the cost line at any distance than the fare curve we have
adopted herein. Throughout the various phases of this investigation, one of the
Board's overriding concerns has been the development of a fare structure as
closely cost-based as possible. For this reason, we believe it essential that the
Board prescribe the parameters of the fare structure if our efforts are not to
prove an exercise in futility. Within these limited constraints, carriers will re-
main free to initiate fare changes by filing tariffs subject to our powers to suspend
and investigate.
In sum, a denial of fare flexibility as here proposed will not prevent carriers
from establishing changed fare levels consistent with the provisions of the Act.
Nor does our decision in any manner prevent carriers from offering new types
of service at fares commensurate with costs. Thus, fare flexibility is already
possible whenever factors justifying its existence are present. However, con-
sidering the pricing history of this industry and the true economic incentives
associated with increases or decreases in fares, we continue to believe that a
close monitoring of propo.sals for fare changes is necessary if the public is to
be protected from unreasonable fares and the economic viability of the industry
maintained.
[Appendix 3]
Before the Civil Aeronautics Board, Washington, D.C.
[Docket 8008 et al.]
(E-16068)
General Passenger Fare Investigation
(32 CAB 291, 328-31)
Decided November 25, 1960
KATE LEVEL
As noted earlier, the unreliability of the expense and revenue forecasts in
the record makes it impossible to determine the proper fare level in this pro-
ceeding. We have therefore confined ourselves in this opinion to the fixing of
509
the standards which will be employed in regulating future fare levels. There
remains for consideration the question of the method of employing these stand-
ards in future cases.
Essentially, the major problems of application of the standards fall into two
categories: a) the extent to which the fare level should be based upon results
to be auticiijated over an extended period, and b) the extent to which fares
should be regulated on an industrywide basis.
a) No party has suggested that we attempt to regulate fares so as to produce
a particular rate of return for every 12-month period. It is manifest that in
an industry in which costs and revenue factors tend to fluctuate and are difficult
to forecast precisely for any short-term period, any attempt to maintain a
constant rate of return would be futile. There is thus general agreement among
the parties that the fare levels must be regulated to produce a reasonable return
over an extended period of time.
This is not to say that short-term considerations need always be ignored. For
example, if fare relief is necessary to prevent financial ruin to the bulk of
the industry, we would clearly not be justified in refusing such relief on the
ground that the adverse factors responsible for the industry's condition were
merely of a temporary nature. Thus, the extent to which short-term factors
would be influential in affecting the fare level must depend on the length of
time those factors are expected to remain operative and the magnitude of their
impact on the carriers' operating results.
From the foregoing it is apparent that the problem of determining when and
for what periotls fare adjustments should be made cannot be relegated for solution
to any mechanical device. For this reason we do not believe that the 5-year mov-
ing average formula proposed in the initial decision is practicable.^ Rather, the
determination of when to permit fare adjustments and the length of the future
period which should be considered in making these adjustments can be resolved
only on a case-by-case basis, applying informed judgment to the task of balancing
the relevant factors.
(b) The second major problem in the application of standards relates to the
so-called unit of ratemaking. Section 1002(e) (5) sets forth, as one of the factors
to be considered in ratemaking, "the need of each air carrier for revenue sufficient
to enable such air carrier under honest, economical, and efficient management, to
provide adequate and efficient air service." While we are thus enjoined to take
into consideration "each" carrier's need, we are also faced with the facts that
a large part of the domestic route structure is served by two or more carriers
in competition, and that fares must be wniform as between them, notwithstanding
that one carrier's revenue need may be less than another's. In short, we must
reckon with the vexing problem of how to reconcile the statutory mandate to
consider the need of "each" carrier with the hard fact that fares cannot be
regulated on an individual basis. Specifically, shall fares be fixed to meet the
needs of the carriers as a group, of the smaller trunks, of the poorest situated
carrier or possibly even of the most favorably situated ?
The initial decision concluded that fares should be set at levels which would
meet the average of the costs, including return, of the bulk of the industry. In
effect, the entire domestic trunkline industry would be treated as a single unit and
would be regulated so as to produce an overall rate of return to the industry equal
to 10.6 percent, the weighted average of the returns which were found reasonable
in the initial decision for the "Big Four" and "Medium Eight" carriers, respec-
tively. The parties disagree among themselves as to the propriety of this "bulk-
line" approach. Some of the carriers and bureau counsel agree that the nature of
the industry requires that fare levels be set on the basis of the industry as a
whole, whereas other carriers and the GSA argue that the initial decision method
violates the requirement of section 1002(e)(5) that we consider the need of
"each" carrier. We agree in general with the result, although we reach that result
by somewhat different means and would subject it to some qualifications.
21 The Initial decision found that rates should be set by a formula under which aver-
age earnings would be fair and reasonable over a reasonably extended oeriod, yearly
and 5-year averages being given special consideration. Under this formula, yearly and
5-year earnings of the industry would be allowed to fluctuate between an average of
10 and 12 percent on investment. Carriers would be allowed fairly high rates in an
individual year if the 5-year average is low, and consideration would be given to rais-
ing the fare level if the earnings for a particular year fall below 10 percent, and to
lowering the fare level if the 5-year average rate is above 12 percent.
We note that the formula would have the effect, at least partially, of adiusting fu-
ture rates to compensate for past earnings deficiencies or excesses, a result which appears
at war with the doctrine of T.W.A. v. Civil Aeronautics Board, 336 U.S. 601 (D.C. Cir.
1949).
510
The initial decision is based in large part on the theory that regulation should
strive toward achieving the same kind of results that would obtain in the oi>en
marketplace, and upon the belief that fixing fares at the level proposed in the
initial decision would substantially achieve that result. But conformance with
results under hypothetical free competitive conditions is not one of the stated
policy objectives of the Act, nor is it one of the statutory ratemaking standards.
We would not be justified in refusing to consider the need of each individual
carrier merely because a "bulkline" concept may more nearly approach the results
under free competition. Nor can we read section 1002(e) as authorizing the Board
to ignore the need of each carrier in favor of the need of the carriers as a group.
As the excepting parties have pointed out, the statute does not speak in terms of
groups of carriers but rather of individual carriers. The fact that we cannot
regulate fares so as to provide precisely for the need of each individual carrier
does not authorize us to refuse to take such need into consideration.
On the other hand, we clearly are not required to establish fare levels to meet
the need of the most poorly situated carrier as Eastern contends we must. The
statutory requirements that we "consider" the need of each carrier is only one of
five ratemaking factors which we are required to weigh. Consideration of the
other ratemaking standards of section 1002(e), particularly the effect of rates on
movement of traffic (section 1002(e) (1) ) and the need in the public interest for
transportation at the lowest cost (section 1002(e)(2)) militates against the
adoption of the least profitable carrier as the standard for fixing rates. Moreover,
the standard pressed upon us by Eastern would be inconsistent with the need
factor itself. Thus, were we to base fares on the results of the poorest situated
carrier we would of necessity be ignoring the need of every other carrier, contrary
to the mandate that we consider the need of each of them. Finally, to use the
most poorly situated carrier as the unit of ratemaking would result in the vast
majority of the public paying rates greatly in excess of the cost of furnishing the
transportation and would unjustly enrich the great majority of the air carriers.
By the same token, we obviously cannot fix fare levels on the basis of the need
of the most favorably situated carrier. Such a standard could have a disastrous
impact upon many of the other carriers and upon the development of transpor-
tation generally. It is thus clear that the proper fare level must be found at some
point between the needs of the most profitable and least profitable carriers and the
determination of the unit to which the standards shall be applied must be based
upon informed judgment. Insofar as the need standard is concerned, this deter-
mination can only be made after testing any fare proposal against the needs of
the industry as a whole, smaller groups of carriers, and each individual carrier.
The approach recommended by bureau counsel appears to us to accommodate
reasonably the practical problems of industrywide regulation with the require-
ments of the statute. The Bureau would first examine the results of the carriers
as a group by taking the weighted average of the relationship of yield per pas-
senger-mile to cost per passenger-mile (including return on investment ).^^ This
industry average, although not controlling, is entitled to great weight. It indicates
the extent of the general fare adjustment needed to produce a reasonable return
for the industry as a whole. The Bureau would then test the resulting fare level
against the needs of the individual carriers and of groups of carriers. Thus,
consideration is given to the extent to which the fare level meets the costs of the
Big Four and the Medium Eight carriers ; the relative number of passenger-miles
accounted for by the various carriers ; the extent by which each carrier deviates
from the norm ; the effect of such deviation on the group and industry averages,
etc.
In the absence of special circumstances, the record indicates that rates which
meet the needs of the domestic trunkline industry as a whole would reflect a bal-
ancing of the needs of the high-cost and low-cost carriers. Where the bulk of the
carriers fall within a reasonable range of the rates of return found herein to be
proper, and industry figures are not distorted by the unrepresentative results of
carriers who are in extremely poor or extremely favorable situations, fare adjust-
ments should normally be based upon the results for the industry as a group.
=2 The Bureau would weight the average on the basis of revenue passenger-miles per-
formed by each carrier.
511
Inevitably, under an industrywide system of regulation some carriers may fall
below the standard rate of return. That a given carrier may earn less than the
standard during a particular period is not by itself a cause for concern since, as we
have previously discussed, the reasonableness of earnings must be Judged over an
extended period of time. On the other hand, even failure to earn the standard
return for an extended period does not necessarily mean that the particular
carrier will be unable to compete, grow, and prosper. Our findings on rate of
return demonstrate that the rates of 10.25 and 11.125 which we have adopted as
standards are not miniraum returns below which confiscation would result.
Rather, we have deliberately adopted rates of return which are above the mini-
mum returns but within the broad range of reasonableness. In arriving at these
rates, we have taken into consideration the circumstances, that fares cannot be
fixed on an individual-carrier basis because of the competitive nature of our
domestic rate structure and that some carriers will of necessity earn less than the
average standard of return. Thus, in view of the level of the rate-of-return
standards established, we would not regard a carrier's earnings to be deficient
unless those earnings fell significantly below the standards for an extended
period.
The problem of accommodating the requirements of the weak and strong car-
riers is, of course, one of the most difficult to be found in regulation. Clearly,
general fare increases cannot be regarded as the panacea capable of solving the
problem. There are other tools which are more appropriate for use in dealing with
the less profitable carriers. First, an overall examination of the general passenger-
fare structure, an issue excluded from this proceeding, might well result in
bringing the costs and revenues of the individual carriers into closer alinement.
Second, as the examiner pointed out, carriers whose needs are not met by general
fare-level adjustments can seek higher fares, although competitive aspects would
preclude them from charging such fares except on some few noncompetitive seg-
ments (assuming, of course, that such fares are otherwise lawful). A third tool is
that of route realinements designed to produce a more balanced competitive
structure. Finally, we are authorized by section 406 of the Act to grant subsidy
payments where we find that such compensation is required in the interests of
commerce, the postal service, and national defense. Whether, and to what extent,
any of these approaches should be used will, of course, depend on all surrounding
circumstances. Suflice it to say, however, that the Board has available to it a
number of techniques for dealing with problems not amenable to solution by regu-
lation of the general level of commercial fares.
We have considered all the exceptions to the initial decision, and we find
that, except to the extent indicated, they should not alter our decision herein.
An appropriate order will be entered.
Chairman Gillilland, Vice Chairman Gurney, and Member of the Board Boyd,
concurred in the above opinion. Member Minetti filed the following concurring
and dissenting opinion. Member Bradgon, did not take part in the decision.
Senator Kennedy. Our next witnesses represent Eastern, Delta,
and American Airlines: Mr. Morton Ehrlich, of Eastern Airlines,
Mr. Randall ^Malin of American and Mr. Morris Shipley of Delta
Air Lines.
Dr. Ehrlich is vice president of planning and chief economist for
Eastern. In addition to serving on various committees of the Air
Transport Association of America, Dr. Ehrlich is an adviser to the
U.S. Department of Labor.
Mr. Eandall Mai in, vice president of market planning, has worked
for American Airlines since 1961 and has had the positions of director
of economic research, assistant to the president, director of marketing
plans and assistant vice president of market planning.
Mr. Morris Shipley is vice president of government affairs for
Delta Airlines and has been employed by Delta since 1962.
I welcome you to our hearings today. As you know, I am going
to have to leave, but we have some questions.
512
STATEMENTS OF DR. MORTON EHRLICH, VICE PRESIDENT FOR
PLANNING AND CHIEF ECONOMIST, EASTERN AIRLINES;
RANDALL MALIN, VICE PRESIDENT OF MARKET PLANNING,
AMERICAN AIRLINES; AND MORRIS SHIPLEY, VICE PRESIDENT
OF GOVERNMENTAL AFFAIRS, DELTA AIR LINES
Senator Kennedy [continuing]. Mr. Malin, I know American Air-
lines did a study, a printout really, on the costs of providing the type
of service that PSA or Air California offers in other parts of the
country.
Couid we start off with that ?
THE POSSIBILITY OF PSA -TYPE SERVICE IN THE NORTHEAST
Mr. Malin. Yes, we said we felt there were cost reductions that
could be effected were we to offer a computer only type service in
one of the Northeast markets. We estimated that cost reduction at
approximately 22 percent. We spelled out the savings that we thought
we could accomplish, mainly in ticketing and reservations and on-
board service. We did not take any savings for a lower union-wage
scale or a change in work rules.
The point that we see — the difficidty we see if we were to implement
such a system or if some other carrier were to implement such a sys-
tem, is that it would have an impact on the citizens of Boston, not in
terms of their connnuter markets, but on the one-stop service that we
presently provide. We pointed out that we currently operate 15 flights
in those markets to Washington and New York, and it may come as
some surprise that 41 percent of our passengers onboard to New York
are not destined for New York and 20 percent of the passengers to
Washington are going beyond or connecting to another carrier. So
some ])rovision has to be made for that traffic, and this is the point
that others have been making this morning, that we are certificated
or part of a number of carriers certificated to provide a system of
air traffic. We are not specialists in the commuter market. We do not
regard our obligations to the Boston citizenry just to minimize fares
fi-om Boston to New Yoi-k and Washington at the expense of other
services.
So that we feel what happens to those other markets must be taken
into consideration if a commuter service is to be implemented. At the
time that Eastern implemented their shuttle in 1961, American felt it
could not compete and Ave ])retty nuich withdrew from the shuttle
market. It was not until the price came back up that we reentered those
markets.
Mr. Shipley. Delta has not made any studies of this thing, and there
is one item that has not come up and I would like to point out, and
that is the limitations of the use of Washington National Airport,
Tliere is an absolute curfew on jet operation between 10 p.m. and 7 a.m.
in the morning. As it happens Delta has the fcAvest slot operations save
one. There is no way we could implement any high frequency opera-
tions in the market.
Senator Kennedy. You might have a reduction of the total number
of planes. If you had the planes fuller there might be less frequency.
513
There is no reason in the world it necessarily means you will have more
frequency on it.
Mr. Shipley. With the slot allocations of Delta at the present time
we cannot operate really any more frequency of service.
Senator Kj:xnedy. Who allocates that?
Mr. Shipley. It is done. The limit is placed by the FAA and within
that hourly limit the carriers primarily on grandfather basis and with
approval of the CAB made the actual allocation arrangements.
Senator Kexni:dy. It is really done within the airlines themselves, is
that correct?
Mr. Shipley. That is correct.
Senator Kennedy. You would not welcome having some other people
trying to come in there and having them really shake up that allocation
again.
Mr. Shipley. Delta Avould be delighted to get some more allocations,
sir.
Dr. Ehrlich. Eastern Airlines has been flying the shuttle for many
years now and has one striking characteristic, it seems to be the type
of service that people who travel in this corridor are demanding. We at
various times attempted to gain a larger share of the market. We run
about 70 percent of the market at roughly that load factor.
A few years ago we attempted to put on a meal service or a snack
service and Ave noticed that our market share deteriorated several
points. We went back to basic no-frills in-flight ticket plan and our
market shares snapped right back.
Our conclusion, although we have looked at the PSA kind of service,
we feel we are providing precisely the type of service that traffic in
the corridor is demanding and our success in that area justifies the type
of service we are providing.
I Avould also point out that with regard to the slot problem, La
Guardia is in precisely the same situation as Washington National.
Senator Kennedy. Well, as I understand. Eastern expansion can
expand capacity with larger backup planes in parts of their shuttle.
Dr. Ehrlich. That is right.
Senator Kennedy. Why could you not provide both services: a
cheaper service that Avould be available to consumers, maybe at a
time when they would need to make a reservation, and also the shuttle.
Dr. Ehrlich. We tried that several years ago, recognizing the fact
we do have backup service, and that is largely to provide passage for
peak houi-s. We recognize if we coujd shift traffic off the peaks it would
reduce the need for airplanes and thus reduce the need for backup
aircraft. AVe filed for lower fares and the Board approved it, but we
did not move one single passenger off peak hours. People have a way of
travel and what we found in that particular corridor, we cannot shift
them off peak travel hours.
Senator Kennedy. How much did you discount the fare?
Dr. Ehrlich. I think it was $8.
Senator Kennedy. Thank you. Dr. Ehrlich. I am going to have to
leave.
We have Mr. Murphy of the Texas Aeronautics Commission who
still has not had a chance to testify. There are a few further points I
would like counsel to develop with you. If you can stay, I Avill ask
counsel to proceed.
51-146 O - 76 - pt. :
514
Mr. Breter [presiding] . I think the most efficient thing to do would
be the following. The staff has looked through everybody's testimony
and the various documents, to try to answer the basic question : Why
is it less expensive to fly in California than it is to fly in the East ?
There are a number of reasons advanced. We have had to use what-
ever facts were readily available to evaluate them, I would like to
spend 10 minutes reading into the record our evaluation of each of the
reasons advanced. I would appreciate it if both the airlines and the
Board or anyone else w'ho is interested would go through the record
and correct any mistake, fact, or evaluation. I think that would be
simpler than asking you questions. Everybody could then respond to
what is a "rough first draft" effort.
These are the various reasons given to explain for the difference in
costs :
The first is "differences in weather." We asked the FAA for figures,
They told us that less than 1 percent of the flights in Washington
Airport, Xew York, and Boston are delayed because of weather. Thus,
weather does not account for much of the cost difference.
The second factor is traffic density. If you compare the Wash-
ington-Boston fare, $44, with the Los Angeles-San Francisco fare of
$18.50, and then look at the density, you find that Los Angeles-San
Francisco route is much denser. There is no question about that.
But other fares in Texas and California, such as the Orange County-
San Francisco fare, are only half as high as the Boston- Washington
fare even though their markets are only one-third or one-half as dense
as the Boston-Washington market. So that leads us to believe Pro-
fessor Jordon's statement of the matter: "Once you get to 100,000
passengers a year, density is not a problem."
The third factor the CAB mentioned is the direction of traffic flow :
That is, does it only move in one direction ? It did not seem to us that
the Boston-Washington market tends to move in one direction any-
more than the California markets, or that it is particularly more sea-
sonal than the California market or the Texas market.
The fourth factor is extra reservation costs and other interlining
costs. Dr. Summerfield went into that only in some depth, and con-
cluded that it amounts to $1.50 per passenger.
Fifth, there are extra labor costs, a third man in the cockpit and a
number of miscellaneous costs, meals, frills, and so forth. Dr. Summer-
field went into these matters ; they came to another $1.58 per passenger
or so. So both the extra reservations, the interlining costs, et cetera
seemed to come to $3 a ticket which did not go very far in explaining
$18 difference between interstate and intrastate fares within Cali-
fornia, or the $25 fare difference between California and the east
coast.
The next difference was that the CAB claimed different airplanes
are flown on the different routes. We looked to see what airplanes were
flown. The airlines in Texas, California, and on the CAB-regulated
routes all fly 727's or 737's. On the CAB routes, they fly some I)C-9's,
too. I don't see Avhy that should make any difference.
The seventh factor is airport congestion. Airport congestion seems
to be worse in the East. So we tried to look at flights on which ramp-
to-ramp time is roughly the same. That should take into account con-
515
gestion both on the ground and in tlie air. So, if you compare flightlegs
with ranip-to-ramp times that are roughly comparabk\ it looks as if
routes with similar times in California or in Texas have about two-
thirds the fare of CxV15-regulated routes. The CAB chart on this is
quite interesting. The CAB chart suggests if you look at routes on a
fare per minute basis, the California and the Texas fares are about
two-thirds or maybe half the east coast fares.
Then there were items like regulatory costs, filing fees, et cetera,
that is number eight. They did not seem significant.
Xumber nine : The need to support other routes in the system. That
seems the most serious and the hardest to get firm information on.
To what extent should people who fly Boston-Washington actually
pay more to subsidize someone else in a different part of the system?
Well, are there such people who are being subsidized? DOT and
others say there are not many. The Board says there are not many.
Are there, or aren't there ? We are trying to get solid information on
that. If there are such subsidies, we should like to know why they
ought to exist.
Number 10: In California and Texas, airlines fill up the plane
more and haA'e more seats in the plane. Everyone seems to think this
factor is important. Of course, that raises the question of whether the
consumer in the East too should be offered a choice of flights with
fuller planes, more seats in the plane, and no meals. I think that is
a serious question.
Xow, I have listed the factors. Our rough information on each is
contained in our charts. We have to write a report that will reflect a
dialog with the industry, the Board, and others. It would be helpful
to have people look at each of these factors and either substantiate
our conclusions, or show these tentative conclusions are wrong^
[Tentative conclusions of subcommittee staff follow :]
Interstate/Intrastate Fare Comparison
tentative staff conclusions
The problem
Fares on intrastate routes (unregulated by the CAB) are one-half to two-
thirds the level of fares on apparently similar interstate CAB-regulated routes.
For example, the fare for the 338-mile, 55-minute flight from San Francisco to
Los Angeles is $18.75 ; but the fare for the 399-mile, 67-minute flight from Boston
to Washington is $41.67. Similarly the fare for the 109-mile, 30-minute flight
from Los Angeles to San Diego is $10.10; while the 129-mile, 35-minute flight
from Portland to Seattle is $22.22. What explains these fare differences?
Proposed explanations
The CAB, outside exi>erts, and the carriers have advanced a number of expla-
nations. We have tried to evaluate the importance of each of them :
1. Differences in the iccather. — The carriers argue that worse weather con-
ditions in the East add to the cost of eastern flights. The Federal Aviation Agenc.v
reports, however, weather conditions cause cancellation or delay of less than
1 percent of all flights at Logan Field (Bo.ston), La Guardia Airport (New York)
or National Airport (Washington). Weather does not account for a significant
portion of fare differences from $20 to $50.
2. Traffic density. — The carriers argue that fare differences arise because it
is cheaper to serve routes with a high-traffic density. Although the Boston-
Wa.shington fare of $41.67 is more than twice as high as the San Francisco-
Los Angeles fare of $18.75, nearly 7 million passengers fly between San Fran-
516
Cisco and Los Angeles, while only 980,000 fly from Boston to Washington. The
attached table however, compares Boston-Washington and other routes of vary-
ing densities with unregulated routes with less traflSc density as well (e.g. Orange
County-San Francisco with 300,000 passengers). Once a traffic level of 100,000
is reached, additional density seems to make little, or no cost difference. Thus,
this factor is of little significance.
3. Direction of traffic flow. — The CAB pointed out that routes where traffic
flows primarily in one direction or are highly seasonal are more expensive to
operate. This factor is not relevant in the case of the routes listed on the
attached table.
■i- Congestion. — The carriers and the Board point out that routes in the North-
east are more expensive to fly because of added congestion in the air and on the
ground. This factor can be measured by looking at ramp-to-ramp flight times,
for added congestion, either on the ground or in the air, and will simply have
the effect of delaying flights and increasing the total flight time. The attached
chart allows comparisons among routes of roughly similar ramp-to-ramp times,
and, again, it reveals vast fare differences between California-Texas and else-
where (compare, for example, Boston-Washington with San Diego-San Fran-
cisco). Additionally, the CAB's tables show large differences in "fare per minute"
(the fare for the route divided by the number of minutes necessary to fly it).
Thus it does not appear that congestion could account for more than a small
part of the fare difference.
5. Additional labor costs, reservation system costs, higher airport costs and
other interline system costs. — The airlines argue that being part of a large
system imposes additional labor, reservation system, baggage, and other mi.s-
cellaneous costs on them that the California and Texas carriers can avoid. Dr.
Summerfield, an expert consultant hired by the carriers" Air Transport Associa-
tion, measured the cost burden that PSA — the California carrier — escapes by
not being part of such a system. He estimated the burden at .$20 million per
year, or approximately $3 per passenger. This figure explains only half of the
difference between the .$18 fare the PSA charges to fly San Francisco-Los
Angeles and the $26 (interstate) fare that the CAB-regulated carriers charge
to fly exactly the same route.
6. Regulatory costs. — Several witnesses pointed out that the cost of appear-
ing before the CAB is significant. The carriers, in their answers to the sub-
committee's questionnaire, however, estimated their cost at several hundred
thousand dollars per year, or a few cents per passenger.
7. Different aircraft. — The Board pointed out that different costs are asso-
ciated with different aircraft. Since the California, the Texas, and the CAB
carriers fly 727's and 737's (the CAB carriers also fly some DC-9's), the air-
craft types do not appear to account for much of the fare differences.
8. The need to support other routes in the system. — The airlines argue that
they must charge a higher price on some routes in order to provide enough
revenue to subsidize service on other routes. So far, however, the airlines have
not provided us with a list of routes that are so subsidized, nor have they
claimed that the routes directly comparable to those in California (e.g., Boston-
Washington) are routes on which their fares are signiflcantly higher than their
losses.
American has claimed that to provide turn-around .service between Boston
and Washington would inconvenience those passengers on the plane going beyond
Boston or beyond Washington, yet, the inability to provide turnaround service
would raise costs only $4 to $5 per passenger. This does not appear to be an
inordinate amount, since, according to the CAB, 83 percent of all passengers
flying from Boston to Washington get off in Washington. It is not clear why
the public shouM have to do without turnaround service in order to save a few
travelers the trouble of changing planes.
9. Seating capacity and load factors. — The major reason for lower costs in
California and Texas seems to be that the airlines there put more seats in the
airplanes and fill up more seats. For example, PSA puts 158 seats in a 727-30 ;
American puts 121 seats in the same plane. PSA flies at a 60 percent load factor,
carrying an average of 95 paying passengers in its 727-30, while American, flying
at a 55 percent load factor between Washington and Boston, carries an average
of 66 paying passengers in the same plane.
517
City-pair
Passengers
transported '
Load
factor <
Block
time'
•Los Angeles-San Francisco $18.75
Chicago-Minneapolis . 38.89
New York-Pittsburgh 37.96
•Los Angeles-San Diego 10.10
•San Francisco-Sacramento. 9. 73
Portland-Seattle _. 22.22
•Los Angeles-Sacramento 20.47
Boston-Washington 41.67
Cleveland-New York... 43.52
Chicago-Kansas City 37.96
Chicago-Pittsburgh _ _.. 41.67
•San Francisco-San Diego 26.21
Detroit-Philadelphia.- 45.37
Dallas/Fort Worth-New Orleans 44.44
New York-Raleigh/Durham 44.44
Columbus-New York_ 47.22
•Dallas/Fort Worth-Houston 23.15/13.89
•Dallas/Fort Worth-San Antonio 23. 15/13. 89
Las Vegas-Los Angeles 28.70
Chicago-St. Louis 29.63
•Houston-San Antonio 23.15/13.89
Boston-New York 24.07
Reno-San Francisco 25.93
Miami-Orlando 25.93
338
339
335
9 7,483,419
1, 424, 621
975, 344
59.0
53.1
52.5
:55
1:06
1:05
109
86
129
2,518,701
505, 148
1,217,381
52.0
41.6
37.3
:30
:30
:35
373
399
416
404
413
915, 077
981,456
910,270
813,235
972, 543
57.5
55.1
59.3
56.5
52.2
1:00
1:07
1:25
1:10
1:23
456
454
442
423
478
399, 639
313,439
522,223
267, 272
294, 682
60.3
48.6
48.0
61. 5
61.8
1:05
1:25
1:15
1:15
1:18
239
248
236
258
1, 620, 000
980, 000
1,181,466
953, 604
59.1
59.3
63.5
61.8
:50
:50
:50
:50
191
191
192
193
490, 000
2, 493, 882
312,811
514, 475
25.4
56.7
58.0
40.5
:40
:50
:46
:40
•Intrastate markets.
1 Interstate markets: Coach fare. Intrastate markets: Economy fare. Source: "Official Aiiiine Guide," Feb. 1, 1975.
2 Source: Book of Official CAB Route Maps and Airport-to-Airport Mileages. Most entries are volume-weighted averages
of two or more airport-to-airport mileages.
3 Source: Interstate markets— CAB service segment data, special computer tabulation, reporting period from July 1,
1973 to June 30, 1974. Intrastate markets— California PUC form 1504 report, reporting period from Apr. 1, 1973 to Mar. 31,
1974.
* Revenue passengers-available seats. Entries for California and Texas intrastate markets include PSA and Southwest
only. Source: same as reference 3.
5 Average scheduled flight time. Source: Official Airline Guide, Feb. 1, 1975.
« California markets include traffic to and from suburban airports. Los Angeles-San Francisco includes 12 airport-pairs,
for example:
LAX-SFO 18.75 338 2,984,985 59.0 :55
ONT-SFO 20.47 363 334,208 60.2 :55
Mr. Breter. I would like to ask American Airlines a question.
Looking at your chart in your prepared statement, you say that you
really could make a Boston-Washington commuter service pay if you
had 112 passengers, roughly. Is that correct?
Mr. Malix. Yes,
Mr. Breyer. Couldn't you put 158 seats in the plane as PSA does?
You then would have a lower-load factor and it might be more
practical.
Mr. Malix. Yes ; it is theoretically practical. It reduces the break-
even load factor to the low seventies. But there would be offsetting dis-
economies from taking a fleet of airplanes, say four 727's, isolating
them to one market, and just spinning them around. Obviously those
airplanes could no longer get lost in the system, so we would lose
flexibility.
Mr. Breyer. Which might raise costs somewhere else.
Mr. Malix. Could raise costs someplace else.
Mr. Breyer. Could you work out the economies ?
Mr. Malix. Thirteen out of 15 flights in these markets do go on,
so all of that service would be lost. Some Boston residents desiring to
get to Memphis would simply have to find some other way to do it.
That is the offset, the loss in terms of public service.
Mr. Breyer. I think the best thing to do, rather than have me ask
questions is simply to leave it at this. You have a set of factors and
518
people could submit statements for the record^ unless you would like
to say anything else,
Mr. Malin. I would like to challenge your point on congestion
American flies the 200-mile segment between La Guardia and Wash-
ington in 2 minutes shorter than the PSA flies Los Angeles-San
Francisco. This is not comparable, in my book.
Mr. Breyer. Sorry. We had brought out differences in airborne time.
If you look at the airborne plus ground times, which takes this delay
into account, there is a considerable diiference. We have roughly
an hour and 10 minutes for the Boston-Washington segment and
roughly 59 minutes for the Los Angeles-San Francisco you are right.
But look at other routes where total times are about the same. There
are a number of other routes which we have on our charts. Take San
Diego-Sacramento and compare it with Chicago-Minneapolis. You
get total times, ramp-to-ramp times, and still the fare looks about
two-thirds as high.
Dr. Ehrlich. Did you calculate what you would expect to be the
cost differential simply because of the speed factor and block-to-block
times in the PSA route ?
Mr. Breyer. We tried to do that. As you know much better than
I do, it is extraordinarily complicated. We have all kinds of different
numbers. I will give you copies of all the tables. You will have these
numbers, and I am sure that there are lots of arguments about them.
I think the way to proceed is by Avritten dialog.
Dr. Ehrlich. I would strongly urge that you make a very specific
attempt to make that calculation, because what you will find is that
most costs are based on block-to-block times. The simple fact that an
airplane is forced to fly a lot slower, 200 miles relative to -350 miles,
causes the cost increment to increase very, very substantially.
Mr. Breyer. The operating costs of the airplane comprise only one
portion of it.
Dr. Ehrlich. I think you will find on a block-time basis that the
differential would run into several dollars of cost.
Mr. Breyer. Would you work something out ?
Dr. Ehrlich. The other point I would urge you to consider is the
differential in landing fees among the airports.
Mr. Breyer. ^ye have that.
Dr. Ehrlich. Based upon landing fees in the PSA operation relative
to the east coast corridor is roughly 30 to 35 cents difference per
passenger.
Mr. Brei-er. Exactly. I think Dr. Summerfield had that in his
testimony.
Dr. Ehrlich. I think another element makes a big difference,
roughly a half dollar per passenger is the difference in pilot pay in the
PSA relative to the trunk carriers on the east coast, and that adds
roughly another half a dollar increment.
iNIr. Breyer. I Avould ask Mr. :Murphy if you would submit written
testimony ? Would you like to come up ?
Mr. jNIalix. Before we step down, one clarification. The Senator
was using an operating factor which is percentage of miles completed.
That is quite different from delay. Of our operations at La Guardia, 50
percent are delayed to some degree. They may all complete their trip,
but it is delay factor that is important.
519
Mr. Breyer. Do you think it is fair to look at routes that have
roughly the same ramp-to-ramp time? It seems to me that is a reason-
able way to take delay into account ? Do you think so ?
Mr, Malin. Yes.
Mr. Breyer. All right. So we find on fairly comparable routes the
fares are still
Dr. Ehrlich. When you consider the implications of on-time per-
formance and the costs
Mr. Breyer. That should sliow^ up in ramp-to-ramp time, should it
not.
Dr. Ehrlich. On a performance basis?
Mr. Breyer. Yes ; on a performance basis.
Mr. Shipley. Mr. Breyer, I would like to note in connection with
your request that we submit written statements on this. Delta cer-
tainly will do its best, and if the information is available, or can be
made available without undue burden, we will submit a response.
Mr. Breyer. Thank you.
[The prepared statements of Dr. Ehrlich, and Messrs. Kandall
Malin, and Morris Shipley follow :]
Prepared Statement of Dr. Morton Ehrlich
The topic of today's hearings has been listed as "Comparison of State and
Federal Regulation of Airlines and Comparison of State Air Fares with Inter-
state Air Fares." The major domestic markets, both long-haul and short-haul,
served by Eastern Airlines are in interstate air transportation. Eastern,
unlike some of the other Federally-certified carriers, is not authorized to serve
any significant intrastate markets, such as Los Angeles-San Francisco on the
West Coast or Dallas/Fort Worth-Houston within the State of Texas. For these
reasons, insofar as its own operations are concerned, Eastern is not a carrier
that is in a position to discuss any comparison of differences that may exist in
the State and Federal regulation of air transportation markets, particularly
with regard to air fares.
The air fares in Eastern's domestic interstate markets are regulated by the
Civil Aeronautics Board under the powers granted to that agency in the Federal
Aviation Act by Congress. This is one of the major regulatory functions of the
Board and one that has been the subject of intensive proceedings before the
Board in recent years. In 1970, the Board instituted the Domestic Passenger
Fare Investigation to determine the policies and standards that should be fol-
lowed by the Board in its review and regulation of domestic air fares. The guiding
criteria laid down by Congress to be followed by the Board in completing this
large task are set forth in the Declaration of Policy (.section 102 of the Federal
Aviation Act) and the Ratemaking Standards (section 1002(e) of the Act). In
simplified terms, the job of the Board is to determine the revenues needed by the
carriers to cover their costs (including a reasonable return on investment) so
they can offer the services that are reqmred by the public interest.
The Board is just now completing the final phases of the Domestic Passenger
Fare Investigation. In one of its phases, the Board has determined the overall
fare level need of the carriers (ba.sed on such standards as load factor, seating
configuration, depreciation, rate of return, etc.). The Board has then translated
this overall revenue need into a fare structure, which produces fares in individual
markets varying by length of pas.senger haul (with a downward taper In yield
per mile as the length of haul increases). This is illustrated in the attach-
ment, which is a chart from the Board's decision in Phase 9 of the DPFI, showing
how the Board's fare formula relates to the cost of .service at various lengths of
haul. While the fare formula does not "track" the cost curve precisely, the basic
objective of a cost-related fare formula is achieved. It is of interest that the
Board's fare formula in markets of approximately 400 miles or less produces
fares that are less than costs at the.se distances.
While, as indicated above, Ea.stern does not operate in any major intrastate
markets, we are aware of fare comparisons that are sometimes made between the
interstate markets in the Northea.st corridor (e.g., the New York-Boston and
New York-Washington markets served by Eastern) and the intrastate service
between Los Angeles and San Francisco. First of all, it must be understood, as
520
stated above, that under the Federal regulation of interstate markets, fares in
individual markets are not set in isolation. The objective of the Board is to
establish a basic formula that will produce a rational integrated fare structure
for the entire interstate route network where a single market or group of markets
is not favored to the detriment of other markets. It is this overall nationwide
fare formula that produces Eastern's fares in the Northeast corridor. Specifically,
the fares on the air shuttle in the Northeast corridor are precisely equal to the
basic coach fare produced under the Board's formula.
Beyond this, there are other factors which demonstrate that it is not possible
to make an uncritical comparison of the Northeast corridor interstate fares and
the intrastate Los Angeles-San Francisco fares. There are a number of substan-
tial differences in these two operations which are a continent apart. For example,
such factors as weather and aircaft traffic congestion are not comparable. There
is a substantial difference in the speed at which the aircraft operate in the two
services. While the Northeast corridor stage lengths New York-Boston (185
miles) and New York-Washington (214 miles) are shorter than Los Angeles-San
Francisco (347 miles), the published travel times are the same (1 hour). This
means that Eastern's jet aircraft are able to attain average speeds of only
185 m.p.h. (New York-Boston) or 214 m.p.h. (New York-Washington) compared
to 347 m.p.h. betwen Los Angeles and San Francisco. This is important when it is
remembered that labor costs are incurred by the hour, a factor which is further
compounded by the rate differentials for employees that exist between Eastern's
service and the intrastate operations on the west coast. In addition, there are
different landing fees in the two services, with a rate of $1.45 at La Guardia
compared to $0.40 at Los Angeles per 1,000 pounds landing weight. On an annual
basis this amounts to $1,800,000.
In conclusion. Eastern believes that the air shuttle services in the Northeast
corridor are an important public service in these markets. The service has been
used by over 36 million passengers since its inception and the no-reservation back-
up section feature has been well received by the public. In this regard, it is
important to note that the air shuttle is conducted in a highly competitive en-
vironment, with 12 airlines having authority in the corridor, four of them on an
unrestricted basis. Thus, the air shuttle competes against other carriers in the
market, including those operating on a conventional reservation, two-class serv-
ice. It is up to the public to make its choice of the types of service in these
markets. There is abundant authority in the markets that enables the carriers to
offer the public whatever services they desire at fares consistent with the coach
fares derived under the Board's industrywide fare formula.
PRESESI FARE FORMULA
BOARD'S fASE Fo::.;uu
SOL'.'^CE: CAB Oruer 74-3-32.
521
Prepared Statement of Randall Malin
1. It is our understanding that the purpose of this phase of the suhcommittee's
hearings is to discuss the costs of a commuter-type air service in the Boston/
New York/Washington corridor, and to determine if there is justification for
fares in these markets to be different than those offered by intrastate carriers
such as Pacific Southwest Airlines (PSA) in the Los Angeles-San Francisco
market.
2. For purposes of this inquiry, American has appended detailed estimates of
operating service in two of the Northeast corridor markets, Boston-Washington
and New York-Washington.^
3. Exhibit 1 estimates the costs to American for the type of operation it con-
ducts today in these two markets. Exhibit 2 estimates the costs of conducting a
commuter-only operation confined to the carriage of local traffic. For purposes
of determining a break-even passenger load factor in the Boston-Washington
market, we have used the revenue yield per passenger-mile derived from the fare
offered by PSA between Los Angeles and San Francisco. In the New York-
Washington market, we have used PSA's dollar fare ($18.75) because the
scheduled block-to-block time is approximately the same as that for Los Angeles-
San Francisco.
4. Costs are divided into five major areas : Flight and maintenance, servicing
and handling, advertising and sales, administrative overhead, and aircraft owner-
ship. Costs reflect American's actual experience for the type of operation now
conducted by American in these two markets. Applying the PSA fare level to
these markets, the break-even load factor on a fully allocated cost basis (with
no allowance for a proper rate of return) would be the following :
Percent
Boston-Washington 130. 6
New York-Washington 137.2
5. Exhibit 2 estimates the reduced costs if American were to offer a pure com-
muter operation, carrying only local traffic (excluding interline and intraline pas-
sengers moving beyond the terminals of the Boston/New York/Washington cor-
ridor). In computing these costs, we have reduced American's experienced unit
costs in the following areas :
Reservations/ticketing 68 percent reduction to reflect reduced time of
reservations and ticketing agents in handling
simple point-to-point passenger routings.
Baggage handling 50 percent reduction to reflect reduced volume
of baggage of commuter traffic.
Catering and food service 100 percent reduction to reflect elimination of
free amenities.
Agency commission 43 percent reduction in travel agent commis-
sions to reflect PSA experience
Wage scales/work rules No change.
6. After adjusting costs for these savings, American estimates the following
break-even load factors for a commuter-only operation (costs do not include an
allowance for a proper return on investment) :
Percent
Boston-Washington 92. 6
New York-Washington 93. 4
7. In your consideration of whether it is fea.sible to obtain lower fares in these
markets with a commuter-only operation, it should be borne in mind that such
an operation may well result in less service for those passengers traveling beyond
1 The routes are comparable to Los Angeles-San Francisco. The distance between Los
Angeles and San Francisco is .338 miles. The distance between Boston an(i Washington
is 399 miles. While the distance between New York and Washington Is on'y 214 miles,
American's 58-minute block-to-block scheduled time on this route Is almost identical to
PSA's 60-minute scheduled time between Los Angeles and San Francisco. The relatively
slower travel time between New York and Washington is related to ground and air con-
gestion that affects operations in the Northeast corridor. For example, approximately 50
percent of American's operations at La Guardia Airport are subject to some ground or
air traffic delay, as compared with approximately 20 percent for American's operations
at Los Angeles and San Francisco.
522
the Boston/New York/Washington terminals.^ American's local flights to and
from Boston now carry the following percentage of passengers moving beyond
the Boston/New York/Washington terminals :
Percent
Boston-Washington (National) 26
New York (La Guardia ) -Washington (National) 30
Boston-New York (La Guardia) 41
Since American's schedules today are supported by a combination of local
traffic and through and connecting traffic, any loss of local traffic would under-
mine the economic soundness of American's through and connecting service at an
affected terminal. In all likelihood, the amount of through and connecting service
offered by American would have to be reduced. This result, in our view, would
be detrimental both to the general public and to the airline industry.
-SHORT-HAUL OPERATING RESULTS AT INTRASTATE FARE LEVEL
[Average one-way]
Boston- New York-
Washington Washington
968
771
870
837
831
743
234
189
246
184
3, 149
2,724
(471)
(455)
Passenger revenue at 100 percent load factor $2, 678 $2, 269
Expenses:
Flight and maintenance
Servicing and handling costs
Advertising and sales
Administrative and overhead
Aircraft ownership
Total
Net earnings -
Additional passengers required to break-even 37 45
Total passengers required to break-even 158 166
Seats available 121 121
Break-even passenger load factor (percent) 130.6 137.2
EXHIBIT 2.— SHORT-HAUL OPERATING RESULTS AT INTRASTATE FARE LEVEL AND MODIFIED COST STRUCTURE
lAverage one-way)
Boston- New York-
Washington Washington
Passenger revenue at break-even level $2,476 $2, 124
Expenses:
Flight and maintenance 968 771
Servicing and handling 648 631
Advertising and sales 380 349
Administrative and overhead 234 189
Aircraft ownership 246 184
TotaL 2~476 M24
Net earnings -
Passengers required to break-even 112 113
Seats available.. 121 121
Break-even passenger load-factor (percent) 92.6 93.4
Biographical Sketch op Randall Malin, Vice President, Market Planning,
American Airlines, Inc.
Randall Malin is vice president of market planning for American Airlines,
Inc. In this capacity he is responsible for American's marketing strategies
and plans.
- In Boston, for example, all eight of American's daily Alights to La Guardia continue
on from New York, providing one-stop service from Boston to St. Louis, Detroit, Toronto,
Dallas/Ft. Worth and Memphis. Five of the seven daily flights from Boston to Washing-
ton continue on from Washington to Indianapolis, Memphis and Cincinnati.
523
Mr. Malin has worked for American since 1961 and has held the positions of
director of economic research, assistant to the president, director of marketing
plans and assistant vice president market planning. He was elected vice president
of market planning and schedule development in June 1970, and a year later
became vice president of passenger market plans. In January 1973 he was
elected vice president of resource planning. He assumed his present position
in September 1974.
Throughout most of the period from June 1970 through September 1974, Mr.
Malin was directly responsible for American's passenger fares and schedules.
He also negotiated all of American's capacity restraint agreements.
Mr. Malin is a graduate of Dartmouth College, and he holds a master's degree
from Dartmouth's Amos Tuck School of Business Administration.
Prepared Statement of Morris Shipley, Delta Air Lines
Delta has previously explained to the subcommittee's staff why our company
is not in a position to contribute meaningfully to the hearings with respect to
"shuttle" or other mass-market low-cost services in the northeastern, and particu-
larly in the Boston-Washington areas. As we understand it, the subcommittee
hopes to explore the reasons why a service comparable to that conducted by
Pacific Southwest Airlines (PSA) within the State of California has not de-
veloped between major northeastern cities, either as a separate "subsidiary"
operation by one of the carriers presently serving the markets, or by some new
carrier. Aside from the matter of service frequency, which will be discussed, the
basic questions here are whether such a service could operate at lower fares
than those now obtaining in the markets which, in turn, involves questions of
cost/revenue relationships in the Boston-Washington and other northeastern
markets.
First, however, it should be noted that if the reference to PSA-type service
means turnaround service confined to a particular market and operated with
high frequency, northeastern area markets have had — and at least one, New
York-Washington still does have — service comparable in these respects (and
superior in terms of backup equipment) to the PSA Los Angeles-San Francisco
service, which is that carrier's major operation. We here refer to the Eastern Air
Lines "shuttle" which previously served the Boston-Washington as well as the
New York-Washington market. Initially Eastern's fares were lower on this
service than on some other services, and both this historical fact and the present
situation with respect to the shuttle undoubtedly can be expanded upon by
Eastern. Delta is not in a position to comment on the marketability and
economic results of this service.
The basic reasons why Delta Air Lines is not in a position to contribute mean-
ingfully to discussion of the various causative factors relating to the possibilities
for a northeastern area PSA-type service are as follows :
1. Delta is a relative newcomer to the Boston markets, and in terms of un-
restricted authority is also a newcomer to the remainder of the northeastern area
markets (those between Washington, Baltimore, Philadelphia, New York,
Hartford and Boston).
Delta acquired its first Boston and Hartford authority on August 1, 1972, when
it and the former Northeast Airlines merged. Prior thereto Delta held authority
only in the markets between Washington, Baltimore, Philadelphia and New York,
which authority was long-haul restricted in the sense that any flight serving two
or more of these cities could not tiirn around or shuttle between them, but was
required to also serve specified cities in the southeastern and southwestern por-
tion of the nation. (This requirement was imposed because Delta was certificated
for purposes of connecting the Southeast and Southwest with the Northeast, and
the CAB directed that Delta's efforts be concentrated on the development of
this inter-regional traffic. )
Since the merger Delta has been able to combine Washington-Boston service
with Delta's Washington-Southeast/Southwest services, but has been prevented
from significantly increasing the volume of Washington-Boston service previously
operated by Northeast, and from seriously considering a shuttle or other turn-
around or PSA-type service because of the following overlapping and com-
pounding circumstances :
(a) Delta was unable to assimilate the former Northeast and Delta systems
from a scheduling standpoint until December of 1972/January 1973. It was neces-
524
sarv of course, to conduct the combined operation as initially structured for a
period of time in order to gain experience and to allow sufficient time to achieve
post-merger integration of the various employee groups of the two carriers, before
altering the pattern significantly. Before this initial trial period expired the fuel
crisis hit While official governmental regulations based on the fuel crisis were
issued in October of 1973, Delta was feeling the effects of the coming crisis even
before that time Because the airlines, more than virtually any other segment of
the economy, have been subjected to reduced fuel allocations and fuel deliveries
(the airlines remain limited to an allocation of no more than their 1972 fuel
consumption despite the carriers' critical importance to the U.S. commerce), and
because fuel costs have rapidly escalated, the fuel crisis— and the following
factor— have resulted in Delta's barely hanging on in the Washington-Northeast
markets with essentially the initial post-merger pattern.
(b) The preferred airport at Washington for Boston and for most medium-
haul services is Washington National Airport. The airport, however, has not been
expanded for many years. This circumstance, together with the results of en-
vironmentalists' protests, has precluded the use of four-engine jet and wide-
bodied aircraft at Washington National Airport, and has severely restricted the
number of daily jet operations which can be conducted with any type of aircraft.
For safety and other reasons, the carriers have been limited by the FAA to a
maximum" of 40 movements iier hour for all carriers combined, with a total ban
on all jet operations between 10 :00 p.m. and 7 :00 a.m. Since this ban was ini-
tially imposed, adjustments in the timing of each individual carrier's flights and
its number of operations in any particular hour have been made from time to
time on a regular, recurring basis, under a cooperative arrangement authorized
by the Civil Aeronautics Board, in order that the best overall public service can
be provided at that airport. But this necessary restraint on use of Washington
National Airport effectively puts a lid on the number of services which Delta
and other airlines can operate in the Washington-Boston market, or in any
other Washington market.
The slot problem manifests itself not only in a physical inability to land ad-
ditional flights at the preferred Washington National Airport, but in an effec-
tive continuation of Delta's prior long-haul restriction north of Washington. Thus,
while Delta inherited Northeast's unrestricted turnaround authority in the mar-
kets between Washington, Philadelphia, New York, Hartford and Boston, the
merger also placed service obligations on Delta between Boston/Hartford and
points on the former Delta system in the Southeast, via Washington or one of
the other northeastern cities. At the same time, of all the carriers serving Wash-
ington National Airport, Delta has the fewest number of slots save only one
other carrier.^ These circumstances combined have necessitated discharge by
Delta of both its Washington-northeastern city and Washington-southern city
local service obligations, and its through service Boston/Hartford-south service
obligations, with sing'e-plane services in most instances between the New Eng-
land points and the South via Washington. This, in turn, has prevented a PSA-
type turnaround operation north of Washington, and made a study of such an
operation impractical.
2. Northeast as never able to operate an hourly service between Boston and
Washington, so there is no experience upon which Delta can draw in this respect.
Furthermore, the former Northeast Airlines officials who were in charge of that
carrier's scheduling and fares are not now associated with the merged company.
Whatever records of premerger scheduling and fare development might have
existed at one time no longer exist, to the best of Delta's information and belief.
3. Delta has not made studies of the feasibility of conducting a PSA-type
service. As noted above, prior to the Delta/Northeast merger on Augu.st 1, 1972,
Delta was long-haul restricted in northeastern markets. There are no other areas
of Delta's system that have the combined features of medium length/high traffic
volume - which are normally viewed as prerequisites to a PSA-type service.
The PSA-type service is claimed to have two benefits — high frequency and
somewhat lower fares than are normally available on regular interstate carrier
service (the latter comparison is usually made between the PSA daytime fare
1 Delta, for example, has only 32 slots, while the other three carriers certificated in the
Boston-Washington market have a much larger number : Allegheny 88. American 70, and
Eastern 136.
2 The Boston-Washington market is many times smaller than PSA's Los Angeles-San
Francisco market.
525
and the interstate carriers' normal daycoach fare, and ignores the substantial
savings available on the latter carriers from various promotional fares and the
daily 20 percent reduced off-peak fares offered by carriers such as Delta). As
explained above, the high frequency of sen-ice can equally be made available
by operations through the market, and this factor has thus not called for study
of a PSA-type turnaround service. A study from the standpoint of fares has
not been feasible as long as the CAB's comprehensive Domestic Passenger Fare
Investigation has been pending, as it has since 1970 (the complexity of this
massive investigation necessitated such an extensive period of time). Until the
DPFI is fully completed (it is still subject to pending court appeals, and is sub-
ject to additional court review) Delta is not in a position to know whether it
would be possible to charge a lower fare for a PSA-type service than that pre-
.scribed by existing law and CAB decision and regulation. This cirmucstance,
too, has made it impractical to study a "PSA-type" operation.
It is for the foregoing reasons — and particularly Delta's limited experience
with the Washington-Boston market (and with any northeastern market, except
on a long-haul restricted basis) — that Delta has not made any study of a
PSA-type operation in northeastern markets, and cannot contribute meaning-
fully to the subcommittee's discussion of this particular matter.
]Mr, Breyer. The next witness is ]Mr. Charles Murphy, representing
the Texas Aeronautics Commission. ]Mr. Murphy is an attorney and a
pilot and has been executive director of the TAC since September 1965.
^Ir. Murphy is also chairman of the air transportation subcommittee
of the National Association of Regulatorj^ Utility Commissioners. I
would like to welcome you to these hearings.
Thank you very much, ]Mr. ISIurphy and I apologize for the delay
this morning.
STATEMENT OF CHARLES MURPHY, EXECUTIVE DIRECTOR,
TEXAS AERONAUTICS COMMISSION
Mr. ]MuRPiiY. If you would permit me, I would like to deviate, just
a little bit from some of the testimony, and that is why I said that I
would like to make an oral statement rather than submitting only the
prepared statement, because some of the testimony here, I think,
brought u]) some questions that I would like to respond to or have
something to say about.
STATE REGULATION IN TEXAS
I view this situation maybe from a position that is a little ditFerent
from most of the people. I happen to be director of a State agency
that performs two functions. It performs not only the regulatory func-
tion performed by the Civil Aeronautics Board, but also the system
development functions as performed by the FAA.
I am very conscious of the fact that wnthout a system to operate over,
the finest regulatory policies in the w^orld would be ineffective. I think
that the air transportation system over which these commercal carrier
are now operating lacks a lot.
I would from my prepared statement like to read to you just a sen-
tence that I put in a letter in 1966 to then Governor Connally of
Texas. After having made a previous statement I said :
That has been equally frightening and painful to see that in the field of air
transportation governmental re.sponsibilities of the states and their aviations
agencies are little studies, carelessly approached, unbelievably misunderstood
and neglected.
526
This results in not an economic question, but a political question. In
any given area or in an industry, if you have only one organized and
well finished group, other less organized less finished, their voice is
relatively weak, then obviously the policies of the well organized, well
finished group ai-e going to prevail, such as in the case of the aviation
industry. ATA is the only well finished, well organized aviation group.
There is another political question that comes up, and that is that
all regulatory agencies tend to be neglected by their creating agency,
whether it be Congress or the State legislature. The moment that the
President or the Governor signs a bill and says we have now created
a regulatory agency to solve our problems that agency then comes
under a tax and just by the mere fact that it associates only with the
people that it regulates, it loses contact with the public and the media,
and it begins to move in a direction as becoming responsive to and in
some instances almost captive of the industry it regulates, which
brings me down to the question of what you want to ask me. Why have
you been able to have cheaper rates in Texas ?
Mr. Breyer. Have you been able to have cheaper rates ?
Mr. Murphy. I think so.
Mr. Breyer, How much cheaper have they been ?
Mr. IVIuRPHY. Well, as you have said here, they vary from as much
as one-half to two-thirds of CAB regulations.
I would also add that the only unregulated fare in Texas is the
intrastate fare charged by the CAB carrier. The fares charged by the
intrastate carrier, regulated by the Texas Aeronautics Commission,
are regulated. The intrastate fares of the CAB carriers are unregu-
lated, which poses a problem for us where our carriers are roughly in
competition with the CAB carrier.
Mr. Breyer. You have lower fares, and why is it you think they are
lower ?
Mr. Mtjrphy. Well, they are lower because, beginning with Gover-
nor Connally and following through with Governor Smith and now
with Governor Briscoe, for the first time there were men appointed to
the Texas Aeronautics Commission who were not appointed to that
Connnission because of their previous aviation background. They came
in as knowledgeable men. Today, Governor Briscoe has recently ap-
pointed a gentleman who does not fly, it is not a pilot, he does not own
an airplane, and to be purely frank about it, he doesn't like to fly.
Mr. Breyer. Well, I think the CAB — the profits are not enormous,
they are not making heaps of money.
Mr. Murphy. I am not saying that is it. I am only trying to get
around to the point that these gentlemen, when they accept the same
facts and figures that are presented to them for their ultimate decision
as are presented to the Board members of the CAB or any other regula-
tory body, and they are presented with voluminous records, that the
only difference between them and another regulatory agency is that
they may tend to put into their final decision maybe a little greater
factor of public opinion.
REASONS FOR SOUTHWEST AIRLINES' SUCCESS
Mr. Breyer. Are the load factors higher in Texas ?
Mr. Murphy. They are. The load factors are very high. They do
have a very high-load factor. They have it for a number of reasons.
527
One reason that lias been overlooked today is you have the system in
California that you have because of the availability of the airports to
operate out of, three out of the bay area to five in the Los Angeles area,
an accessibility of service, people wanting to go where they want to
go. They can go from any one of three to any one of five.
In any opinion, vrhat makes Southwest so successful in Texas, it is
able to o])erate from the close-in and convenient Love field in Dallas
and the close-in Hobby field in Houston.
I was just going to say this is one of the three factors that makes the
Southwest operation attractive to the consumer. It is convenient, and it
is cheap. Xow, Southwest is doing an unusual thing, partially because
of the flexibility that the Texas Aeronautics Connnission has permitted
them to have in trying to arrive at a fare structure which would be
attractive to the public. They now have a dual-fare system. I don't
know whether you are aware of it or not, but that is the $25 flights
from say 8 a.m. to 5 p.m. or 6 p.m., but any flight originating before 8
in the morning and after 6 in the afternoon is what is called a pressure
class; it is a $15 flight.
I would suggest to you that someone from the Senator's staff visit
the airports and observe the difference in the appearance of the people
who utilize the $15 fare as opposed to the $25. These people are people
who are coming to the airline instead of going to the bus. It is almost
like they are getting ready to takeoff on some of the late flights and
you kind of wait for them to tie the chicken coop on top of the airplane.
Mr. Breyer. We have about 5 or 7 million who go by car.
Mr. ]\IuRPHY. Southwest Airline is obviously competing with the
automobile, there is no doubt about that. There are other factors per-
mitting it to be cheaper than those named here, not only the ticketing
and baggaging and what have you, the terminal costs, these people
proceed to get a ticket and get on the plane. You don't need a vast
terminal. They are not sitting around waiting for a flight 5 hours from
now. The bar at Love field is a little table about like this with a few
bottles of whiskey sitting over in the corner. All they have is a cafe, a
restaurant, that really is for the people who work there, not for the
passengers who are coming there. It is purely a service-oriented
activity, and maybe evidence to the contrary, nobody is holding any
gun to anybody's head, making them use that service. They are using
it because it is a cheap, efficient, economic service. That is a high-
density market.
I have heard the term used over and over again that Southwest
moved into a high-density market" and that has been called cream
skimming, that we came in and skimmed the cream off the market. In
a most recent presentation just last week before the Texas Aeronautics
Commission oral arguments were made into Southwest extention into
the market for the whole valley is about 130,000 passengers, 180 this
year and it is a relatively much smaller market and they are going into
it because of the tourist attractiveness and trying to stimulate a tourist
business.
Mr. Breyer. They are making money on that route ?
Mr. Murphy. They have just started.
Mr. Breyer. They expect to make money ?
Mr. Murphy. They expect to stimulate the market to the extent they
will make money.
Mr. Breyer. Are their fares lower ?
528
Mr. Murphy. Oh, yes. They will make it attractive, hopefully, ac-
cording to the Southwest, where people would go from Dallas or
Houston or San Antonio to the valley over the weekend for maybe just
a few days on the Mexican border as a tourist, on a weekend vacation,
which is not unattractive because of the fare.
But I wanted to say in response to cream skimming, I must give
credit to the attorney for Southwest. He said the cream skimming
indicates that milk is set and cream has come to the top and skimmed
milk has gone to the bottom. He said we are not cream skimming, we
are actually milk dipping. They are going down into the bottom of the
market.
I would like to show you some exhibits which were used in this
proceeding. These are the latest we have. Others will be made available
to you. This will show you how the market was stimulated, how South-
west came into the market.
RELATIONSHIP BETWEEN TEXAS REGULATION AND CAB
Mr. Breyer. Is there any particular problem that arises because of
the CAB's jurisdiction and your jurisdiction? Does it overlap?
Mr. Murphy. It does not overlap. Our only problem is that the CAB
certificated carriers maintain that although intrastate fares are not
subject to CAB regulations that our state law, by language within our
law, prevents us from regulating their fares.
So the problem is that we have some difficulty in regulating South-
west when a competing carrier is unregulated in the market. It is a
matter which the CAB could settle, I think, rather easily. The CAB
has created problems for us, I would think more with maybe what is
called the air-taxi exemption than with anything else. This poses a
problem and will pose an even greater problem when the 30-passenger
airplanes come on the market.
I think that the disastrous effect of the air-taxi exemption was that
it made the aircraft manufacturer design an airplane to meet an arti-
ficial weight limit rather than to serve a need of the public, and this
I think has hurt air transportation in the small communities.
Mr. Breyer. I don't have any further questions.
Mr. Murphy. I would like to leave you here. I do not have an official
document, but I do have a letter saying this is on file today with the
Texas legislative reference library. It is a report of a special
subcommittee.
Mr. Breyer. There is one question I will ask you, and that is, there
has been legislation proposed to extend the CAB's jurisdiction or
maybe regulations into California and Texas. What is j^our view on
the merits of that ?
Mr. Murphy. I think that in order to develop the air transportation
system in the way that I visualize and hope it will be developed in
the future and to be made accessible and available to the public, which
in my part of the country now is not because there are people there
200 miles from air carrier service, maybe 250 miles from air carrier
service — I think that that only — well, in order to establish this system
will take the utilization of a very sophisticated form of Government
and we do have a sophisticated form of Government, our three levels
of Government, and if they each accept their authority and fulfill
their authority, and their " responsibility, it will mesh together. I
529
think to cut out one level or two levels of it and give it all to one
really defeats the purpose and the utility value of this unusually fine
system of Government we have that has built the highways and sur-
faces. If we work together we can build an air transportation system.
But if we permit it — the airport thing was going to a critical point,
and passed the airways account. It failed. Now they come forward
with recommendations which are going to even exasperate that situa-
tion. If you are not aware of the failure of the State goverimients
to participate in the building of airports if you don't begin to use a
carrot and stick approach to encourage the States to become more
involved and to destroy the myth that the Federal Government has
preempted everything in aviation, your study into regulations is not
going to be as meaningful as you hope it will be.
Mr. Breyer. Thank you very much.
Mr. Breyer. We will recess until Tuesday in Washington.
[Whereupon at 1 :05 o'clock p.m., the subcommittee adjourned, sub-
ject to the call of the Chair.]
[The prepared statement of Charles A. Murphy and charts referred
to follow :]
Prepared Statement of Charles A. Murphy
Mr. Chairman, I am deeply grateful to you and to the other members of your
committee for this opportunity to express my views on the regulatory policies
and procedures as they affect air transportation. I would like to think that the
findings of this committee will help produce a new era of cooperation between
federal and state authorities on matters of mutual concern in air transportation.
I have taken the liberty of looking over the .ist ot other witnesses appearing
■before you and, in deference to the great demands upon your time, will try to
avoid duplicating the testimony you are likely to hear from them. Instead, I
would like to bring to your attention some of the air transportation regulatory
problems which have become evident to me in my position as executive director
of the Texas Aeronautics Commission.
First, let me say that the Texas Aeronautics Commission was created in
1945 and has jurisdiction over air carriers operating within the State of Texas
but outside the scope of air transportation as defined in the Federal Aviation
Act. Under our law, we issue certificates of public convenience and necessity
to such air carriers when we fined that their proposed service is in the interest
of public convenience and necessity.
One of the provisions in the act creating our Commission declares, and I
quote : "In determining the existence of a public convenience and necessity for
a proposed air service, the Commission shall consider the encouragement and
development of an intrastate air transportation system properly adapted to the
present and future needs of the State of Texas, and in addition shall consider
the financial responsibility of the air carrier, its proposed routes and rates
or charges; the effect, if any, upon existing air carriers and CAB certificated
carriers, and any other factors similarly related to public convenience and
necessity. . ."
On both the state and federal levels, we obviously face some difficult and com-
plicated problems. However, I believe that many of these problems require
relatively simple solutions^if we work together.
When I came into this business about 10 years ago, my first impression was
one of shock. I was shocked to realize that the state level of government had
such vast responsibilities for developing and regulating an air transportation
system and was doing so little to fulfill those responsibilities. I began investi-
gating and found that most states were not doing anything in this area simply
because a myth had been perpetrated on the Congress, on state legislators and
on the public. That myth was that the Federal Government had pre-empted all
matters pertaining to aviation— and this is not true. It w/is not true then and
it is not true now. But the major airlines had organized and they were able to
sell this idea simply because they were the only substantial, well-financed voice
within aviation. Their resources and orsrani/ational skills have enabled them to
make their policies the policies of the aviation industry and its main regulatory
authority. In effect, the CAB has created a political power which has also l)een
highly successful in thwarting the efforts to establish effective state regulation
530
and state development of air transportation facilities. The CAB should be
aware of this activity and should denounce it.
About one year after I joined the Texas Aeronautics Commission, I wrote
a letter, dated Aug. 29, 196G, to then Gov. John Connally, giving him some of
my observations. In that letter, I said, and I quote : "From the vantage point
of director it has been exciting and stimulating to watch air transportation as
it proceeds in its fantastic transformation from a relatively superficial adorn-
ment of Texas life into a basic industry so vital that the State's economy could
neither exist in its pre.sent form, nor hojie to protrre>s, without it. It has been
equally frightening and painful to .see that in the field of air transportation,
governmental responsibilities of tue SliUes and liuir aviation agencies are
little studied, carelessly approached, unbelievably misunderstood, and, as a
result, neglected."
That statement was made in 1966. During the succeeding years, I think I
have gained a better understanding of the basic problems but they really are
about the same now as they were then. And they boil down to the failure of
the states and the federal government to participate fully, as partners, in the
development of a truly adequate air trans] orration system.
We talk about regulating the airlines — but regulation seems somewhat futile
when we do not have and adequate airport system upon which they can operate.
We simply do not have the airports necessary to meet the demands and needs of
the public. We might as well try to regulate trucks without providing the high-
ways for them to use. It's almost like the old chicken-and-egg dilemma but both
California and Texas have demonstrated that adequate, convenient airport
facilities can lead to high public acceptance of airline service on a short-haul
basis.
In California, for instance, a person leaving the San Francisco Bay area can
depart from a number of airports. And he can fly from there to any one of
several commercial airports serving the Los An-reles area. This flexibility makes
air transportation feasible for a great many people, particularly those involved
with one-day business trips. Love Field — located not far from downtown Dal-
las, and Hobby Airport, in Houston — are more abstractive to many people than
are the new Dallas/Fort Worth, and Houston's Intercontinental Airport. Busi-
nessmen save a great deal of time by usin- the airports which are closer to
the business districts. And there are some airline passengers who cannot afford
excessive ground transportation, such as a $Ja taxi ride or even a $4 bus fare.
The long-haul passengers, traveling to such distant points as Washington, New
York, San Francisco or Los Angeles, do not seem to mind the time it takes them
to reach the Dallas/Fort Worth or Houston Airports.
Incidentally, it seems to me that the long-haul, glamor flights always are at
"Gate 1," or whatever the nearest gate happens to be, while short-haul pas-
sengers find their planes at the most distant gates. This seems rather typical
of industry practice, actually ; the short-haul passengers generally get the short
end of the stick — and the longest walks.
Texas has more places to land airplanes than any other state in the nation
and yet it still is woefully short on convenient airport facilities — with the need
continuing to grow. Recent forecasts indicated that, by 1990, Texas will need
airport facilities to accommodate twice as many aircraft, four times as many
passengers, and ten times as much air cargo as we handle now.
In 1970, Congress passed the Airport and Airways Development Act, with
high hopes. Unfortunately, it has failed because the federal government pre-
empted many of the tax sources from which local communities might have been
expected to get revenue for the necessary matching funds. As that Act now
stands, it enables the rich to get richer while the poor get poorer; it lets the
big get bigger while the small get smaller. Some of the amendments now being
proposed would make the situation even worse. To me, it does not make sense to
give $290 million in federal funds to the big. money-making airports to use as
they .see fit, when we so de.sperately need so many new airports. There is no
way any changes in regulatory procedures could make up for the harm this
would do and for the service it would deny to so many potential passengers.
Instead of keeping pace with the growing demand for new airport facilities,
we are letting the development of bigger, faster airplanes accelerate the obsoles-
cence of our present airports. When the CAB was created, one of the first things
it did was grant an "air taxi" exemption, exempting from certification require-
ments all passenger planes weighing less than 12, .500 pounds. For many years,
tliat discouraged aircraft manufacturers from developing jilanes to meet the
real needs, because there was great demand for these smaller planes which
could qualify for CAB exemptions. For years, we were making planes that
carried about 15 passengers, with the next largest size a plane that carried
531
about 100. There was no in-between, such as a 40- or 50-passenger planes that
could serve a great many small communities and operate on the vast majority
of our airports.
Instead of building planes to fit our airport system, we started building bigger
and faster and heavier planes, and sending every airport manager in the country
racing down to his city administration, asking for the issuance of another $50
million in municipal bonds to lengthen and strengthen runaways. The tail
wagged the dog, and we kept modifying the system to fit the equipment, when
it should have been the other way around. This was almost like encouraging truck
manufacturers to build wider and wider trucks, then trying to rebuild the entire
highway system to accommodate the king-size versions.
The 727, for instance, is a beautiful, money-making problem. Simply because
it has only four main wheels and thus a very high weight per square inch on
each of them, it has cost the airports in this country millions of dollars in repairs
to runways and parking areas.
I believe that the CAB and the states should cooperate in the regulation of
all common air carriers, regardless of aircraft size. The CAB should work with
the appropriate state agencies, not against them. We should have something of
a partnership arrangement instead of the adversary relationship which now
exists.
I mentioned earlier the shock I felt when I became director of the Texas
Aeronautics Commission about 10 years ago and recognized the magnitude of
our problems. It did not take long for me to realize that we had many prob-
lems in common with the CAB — and to foresee the likelihood of problems that
would involve some of the major airlines. Early in the game, I made a nimiber
of visits to the CAB to discuss these problems ; my reception there always was
very cool. No offer of cooperation ever was made, even though the Federal
Aviation Act provides for the CAB to cooperate with and participate with state
regulatory agencies.
It seemed to me that this was a rather curious stand for the CAB to take but
some light was shed upon it in July, 1970, when John H. Crooker Jr., who had
been chairman of the CAB a short time before, intervened with an amicus
curiae brief in the case of Texas Aeronautics Commission, et al, vs. Braniff
Airways, Inc., etal.
Mr. Crocker's brief attempted to explain the CAB's failure, which had been
cited by an appellate court, to take part in the case by saying: ". . . If the CAB
appears before a state agency and presents its views to the agency, this makes
the state agency the judicial tribunal and the CAB a party or a witness or both.
The CAB is thus present before the state agency, and the decision of that agency
becomes even more difficult to overturn on review, even if a Court would have
reached a different conclusion had the matter been considered de novo. Staying
out of a State proceeding, as was done in this case, has the obvious drawback of
leaving the impression with a Court that the CAB is not concerned about the
possibility that too much competition may adversely affect the financial via-
bility of a certificated carrier (especially a subsidized one). Such matters, of
course, might have some adverse effect on the development of the Nation's air
transportation system ..." I cannot subscribe to this theory.
Furthermore, I doubt that it ever was the intention of Congress to have the
CAB be more concerned about the economic health of the airlines than it is
about convenience for the passengers. -Both factors should be considered, of
course, but they should be kept in proper perspective. It is precisely because they
have not been kept in perspective, and because the CAB has failed to concern
itself sufficiently with the needs of the passengers, that intrastate airlines in
Texas and California have been able to take up much of the resultant slack.
In my opinion, dual regulation could work, if it were given a chance. But
dual regulation cannot be a one-way street. There must be a reasonable attitude
on the part of both state and federal officials. Instead of jealously guarding and
trying to expand their own powers, everyone involved should keep constantly in
mind the fact that both state and federal agencies exist only to serve the tax-
payers who support us.
The thrust of air transportation, historically, has been to cater to the long-
haul passengers : planes have been built to suit them, and airports have been
built to suit them. But those airports are inconvenient for the short haul
passenger and the plane, for the most part, are not economically feasible for
short trips.
This gap in the system led to the success of the intrastate airlines in Texas
and California. In Texas, people are attracted to the turn-around flights be-
tween Dallas and Houston because of the convenience of airports near the
532
downtown areas, because of the frequency of the flights and because of lower
costs.
But the public still is paying a high price for the failure of the states to
participate in the development of an adequate air transportation system. It
seems to me that the CAB should change its philosophy and encourage the states
to operate as full partners. We already have the finest air transportation system
of any country in the world, especially when it comes to the long-haul ; working
together, we could improve that system considerably and take some giant strides
forward to benefit short-haul passengers. The states and the federal government
have demonstrated the advantages of working together in building our tremen-
dous highway system ; I know of no reason they should not work together, in
similar fashion, to make our air transportation system all that it should be.
Mr. Chairman, again I want to thank you for this opportunity to appear before
your distinguished committee. I will be happy to try to answer any questions.
SOUTllWES'i AIRLIME GL^RVICE AV/AlCtNED SLEEPING
AIR TRAVEL LlARr.ETS IN TE)(AS 1971 -1972
O^DrAr.SQJG
:i;5
600,000
500,000
A
DALLA^
\~ i;ou
3T0 \\
\ — A
^^--^
— -—- -
200,000
T^
4
/
D ALLANS At J
AfJTO:]
0
{■\ !U
CAB.
AIRLINES
^^~ ^^
Jil-i^
>
!!CU3T6:5-3Ar,
auto::
!0
100.000
,90,000
80,000
70,000
60,000
50,000
40,000
-^ \
^^^^
"■^ —
■
<rTf'T
\
<
^^-.^
tmSsi
J-
"\
— ■
/
2 0.000
[A\DC-.-I',..tST A— • ; C
Vl.r .;•■,•''
10.000
1
V
I9C5 IOC(
I9C3 1970 1971
533
DALLAS-HOUSTON MARKET
AVERAGE DAILY LOCAL PASSENGERS
CARRIED IN EACH DIRECTION
1967 1968 1969 1970
1972 1973
CAB REGULATION OF ENTRY INTO DOMESTIC AIR
ROUTES AND INTO THE DOMESTIC AIR TRANSPORT
INDUSTRY
TUESDAY, FEBRUARY 18, 1975
U.S. Senate,
Subcommittee on Administrative
Practice and Procedure of the
Committee on the Judiciary,
Washington, B.C.
The subcommittee met, pursuant to notice, at 9 :45 a.m., in room 2228,
Dirken Office Building, Senator Edward M. Kennedy (chairman of
the subcommittee) presiding.
Present: Senator Kennedy and Senator Thurmond.
Also present : Stephen Breyer, special counsel ; Philip Bakes, assist-
ant counsel ; and Thomas M. Susman, chief counsel.
Senator Kennedy. The subcommittee will come to order.
OPENING STATEMENT OF SENATOR KENNEDY
The focus of today's hearings is on the process by which the Civil
Aeronautics Board allocates routes, as the Subcommittee on Admin-
istrative Practice and Procedure continues its hearings on Federal
regulation of the airlines. Our hearings have so far examined CAB
charter policies, general principles of airline regulation, and the dif-
ferences between regulated and unregulated aviation. At each stage
of our inquiry, we are asking whether the procedures used by the CAB
are efficient, fair, open, and proper. And at each stage we are likewise
asking whether the policies applied are responsive to the legitimate
needs of the public, the industry, and our Nation in general.
Searching for a coherent, consistent, public-interest-oriented entry
policy at the CAB is difficult. For the past 2 years not one airline was
granted new authority to serve one of the 100 heaviest-traveled routes
in this country. In the past 10 years, only 142 certificates for these
major routes were granted, although airlines filed over 1,800 applica-
tions for these certificates. And since 1950, out of 94 applications for
trunk authority filed by nontrunk airlines, not a single application was
granted by the CAB.
The Board has characterized its current route freeze and refusal to
hold hearings on route applications as reflecting a "policy of caution."
''Caution" is a strange word to describe a policy that ignores the leg-
islative intent of both the Federal Aviation Act and the Administrative
Procedure Act.
The Federal Aviation Act says that route applications shall be set
for public hearing and shall be disposed of "as speedily as possible."
This echoes the Administrative Procedure Act's prohibition against
dilatory handling of petitions: "With due regard for the convenience
and necessity of the parties * * * and within a reasonable time, each
agency shall proceed to conclude a matter presented to it." Neverthe-
(535)
536
less, the CAB has refused to allow new competitors in airline markets
not only by deciding to keep them out, but by refusing even to hear
their cases.^The CAB staff itself has acknowledged that over the past 5
years cases involving new domestic route authority have generally not
been set for hearing, with many of them being dismissed as stale after
lingering for years unheard on the CAB's docket.
The procedural effects of this course of action by the Board are
clear :
First, it prevents public participation in, comment on, or challenge
to CAB entry policies, since there is no articulation of those policies —
if indeed there are any such policies — in rulemaking or adjudications.
Second, it prevents "effective judicial review of any specific route ap-
plication because no final, reviewable order is ever entered on that
application.
But the most important effect of this overall restrictive entry policy,
and in recent years the almost total route freeze, has been to prevent
additional competition in existing markets. This may be good for those
airlines granted monopoly status or at least insulated from new com-
petition. It allows them 'to offer gimmicks and frills and frequent,
empty flights to attract customers. But it also allows them to keep their
fares unreasonably high. And this is not good for the traveling public.
Last Friday one witness estimated that CAB regulation costs Ameri-
can consumers about $3.5 billion each year over Avhat w^e would pay
with a comparable unregulated airline industry. Other witnesses
showed us how, in an intrastate market where until recently new com-
petitors could freely fly between cities, the unregulated intrastate rates
were consistently and" significantly lower than comparable regulated
rates. This begins to give us a more realistic picture of one of the prices
we are paying for a "policy of caution."
Economists have proposed liberalized entry — freer entry into airline
markets — as a necessary step toward lifting the costs and burdens of
Government regulation on the traveling public and on those who buy
goods which have travelled by air. The administration, at our hear-
ings earlier this month, included a more liberal route-award policy
as part of its package of reform proposals directed at aviation regula-
tion. And we will hear from some carriers this morning who believe
that the industry, as well as the public, would be better off with more
route competition.
The CAB's entry policies and procedures may be outdated. They
may be unwise. They may also be illegal. Today we will hear from the
Board, as well as some of its critics, who will discuss those policies
and procedures. If they cannot be justified as serving the best interests
of the American public, then we will continue to chart a course for
their change.
[In addition to the hearing record of this day. materials on certifica-
tion and entry have been collected in the separately bound appendix
to these hearings.]
I want to acknowledge that the subcommittee has received a state-
ment from the Maryland Department of Transportation concerning
the CAB's entry and report award policy. That statement will be en-
tered into the "record. I want to thank them for submitting their
statement.
537
[The prepared statement referred to was submitted by Robert J.
Aaronson, State aviation administrator, Maryland Department of
Transportation. It is printed at the end of the record of the hearings
of this day (February 18, 1975, p. 730, below.]
Senator Kennedy. If Ave could have the representatives of the vari-
ous airlines testifying today come forward together we can save some
time and perhaps get some discussion later. Messrs. Hardenstine,
Wexler, Easenberger, Tipton, Colodny and De Voursney.
Mr. Hardenstine is senior vice president, and a director, of World
Airways. He is a former, often-decorated lieutenant commander in the
Navy, and he has held various positions in the airline industry. He
joined World Airways in 1963.
We have received your statement, Mr. Hardenstine, and the sub-
committee appreciates your participation. I would be pleased if you
could summarize your statement and tell the subcommittee the experi-
ence of World Airways when it applied for transcontinental scheduled
authority.
STATEMENTS OF WILLIAM A. HARDENSTINE, SENIOR VICE PRESI-
DENT— SALES, WORLD AIRWAYS; RAYMOND J. RASENBERGER,
COUNSEL, NORTH CENTRAL AIRLINES; HARVEY J. WEXLER,
SENIOR VICE PRESIDENT, INTERNATIONAL AND GOVERNMEN-
TAL AFFAIRS, CONTINENTAL AIRLINES; EDWIN I. COLODNY,
EXECUTIVE VICE PRESIDENT, MARKETING AND LEGAL AF-
FAIRS, ALLEGHENY AIRLINES; ANDREW M. DE VOURSNEY,
GROUP VICE PRESIDENT, FINANCE AND PLANNING, UNITED AIR
LINES; AND STUART G. TIPTON, SENIOR VICE PRESIDENT, FED-
ERAL AFFAIRS, PAN AMERICAN WORLD AIRWAYS, ACCOMPA-
NIED BY STANLEY GEWIRTZ, SPECIAL ADVISER ON PUBLIC
POLICY, PAN AMERICAN WORLD AIRWAYS
WORLD airways' 196 7 APPLICATION FOR ?75 TRANSCONTINENTAL FARE
Mr. Hardenstine. Good morning. Mr. Chairman.
In summarizing the statement that I have submitted to the sub-
committee, let me say that in 1967 World Airways submitted to the
CAB a proposal that it could operate a transcontinental thrift-class
service at approximately 50 percent of the regular coach fare. It was
our plan to serve secondary airports to the extent available, which
were nonetheless convenient to the major population centers of Oak-
land, Long Beach, and Ontario on the west coast, for example.
Our idea was that thrift fare should be available to everyone every-
day. It was our forecast that this plan would stimulate a substantial
amount of new traffic, particularly discretionary traffic.
After filing our application 61/0 years ago, it was dismissed as stale.
No other explanation was given. We still believe it was a good idea. It
is still valid today.
But let me add, we were prepared to meet the basic statutory test of
proving our plan was required by public convenience and necessity.
We were not advocating free entry. All we wanted was a chance to
538
provide in a regular administrative procedure that our plan met all
the conventional standards for certification.
Let me add one other point that may be a bit tangential to your
major theme. On page 4 of my written statement, I liave summarized
fees paid to the CAB by air carriers. Those related to charter matters
represented 24 percent of the total paid, even though charter revenues
are only 3 percent of industry revenues. This is tJie clearest possible
summary of the overregulation to which we are subjected.
I thank you.
Senator Kennedy. Could you not have gotten judicial review of the
Board's action if you wanted to challenge it?
Mr. Hardenstine. I do not know, sir.
Senator Kennedy. Do you still think you could profitably fly the
route cheaper than the prevailing fare ?
Mr. Hardenstine. I know absolutely.
Senator Kennedy. You could not tell us now what rate. At that time
it was $75.
Mr. Hardenstine. Eight, and I think today it would still come into
an area of 50 percent.
Senator Kennedy. You might give us a note if your legal counsel
did consider taking some court action. Obviously you should not have
to go through that process, but I would be interested to know if that
was given thought. You can submit that as an addendum to your state-
ment later on. Do you intend to refile your application?
Mr. Hardenstine. At the present time, and I would say under the
present climate, I do not think we would.
Senator Kennedy. Why would you not? What is there about the
present climate that would discourage you from refiling?
Mr. Hardenstine. No. 1 would be the economic condition of the
country at the present time and also the status of the action of the
CAB in not granting any of the applications that have been submitted.
Senator Kennedy. How could the Board dismiss the application
without even giving you a hearing ?
Mr. Hardenstine. Well, as I have stated, the application was in for
61/2 years and then it was dismissed as stale, and this is just one case
that World had presented and did not
Senator Kennedy. What happened when you raised this? Your
application had been in for 61'^ years. Were you told only that it was
dismissed as stale ? What kind of response did you get ?
Mr. Hardenstine. If I recall correctly. Senator, a number of appli-
cations were dismissed around the same time as being stale after they
had been submitted in the midsixties.
Senator Kennedy. Did your company try during this period of time
to get a hearing, and were you unable to do so ?
Mr. Hardenstine. That is right, sir. They were submitted and we
were, during the period, attempting to get everything set up.
Senator Kennedy. Do you think it is possible that the Board
thought you could not fly at that fare without losing money, and there-
fore did not feel it was worthwhile to have a hearing given the fares
you were talking about ?
Mr. Hardenstine. No, I would not think so, because in the case
that was submitted and in the submission to the Board, it clearly
showed it could be operated and operated at a profit.
539
Senator Kennedy. How could you fly with a fare so much lower
than the other carriers and still make a profit ?
Mr. Hardexstine. Our feeling: was that basically in operating out
of secondary airports, first, we could get away from the congested
areas — our cost of operation would be less, generally, from the second-
ary airports.
Second, with the price that we were offering we would be able to
have approximately 75- to 80-percent load factor.
Senator Kenxedt. How much of a factor was less congested air-
ports, how much a load factor? "What weight would you say
you would give to each of those considerations ? Could you have flown
at 75-percent load factor out of the primary air terniinals and still
made a profit, or would you have to go at 75 percent out of secondary,
and 80 percent out of primary airports ? What is the difference ?
Mr. Hardenstine. The difference in the secondary is, one, you are
away completely from the congestion of the airport and generally the
fees would be less.
Senator Kennedy. Landing fees ?
Mr. Hardenstine. Landing fees, handling fees, space fees.
Senator Kennedy. Why do not some of the scheduled airlines fly out
of secondary airports and reduce fares ?
Mr. Hardenstine. I think probably the scheduled airlines are serv-
ing the secondary airports, but in general, they are serving them with
one- or two-stop service. As an example, San Francisco to the east coast,
there are a number of nonstop services. If you were looking at Oakland
to the east coast, I do not think that Oakland today has any nonstop
service.
Senator Kennedy. Are the primary reasons, then, that you are not
resubmitting an application: (1) because of the policy that has been
adopted by the CAB, and (2) because of the economic situation ? If the
economy turns around will you reconsider submitting an application ?
Do you still think you can fly substantially below scheduled fares?
Would you give consideration if the CAB indicated that they would
hold hearings — would you give consideration, then, to getting back
in the market ?
Mr. Hardenstine. Absolutely we would, and we still feel that the
operation of the type that we did submit is valid.
Senator Kennedy. Just the assurance, though, that the Board would
give you a hearing would not be enough to get you into the business,
given the economic problems at the present time, or would it?
Mr. Hardenstine. If we knew we would get a hearing and move
ahead with the proposal we would go ahead with it at the present time.
Senator Kenneedy. Your application gave a fare of $75, about one-
half what the fare was then ?
Mr. Hardenstine. Yes, sir.
Senator Kennedy. And flying at 75 percent of capacity out of sec-
ondary airports, you still think that at half the scheduled fare you
could make a profit ?
Mr. Hardenstine. Yes, sir.
Senator Kennedy. If you operated out of the primary airports what
do you think your fare would have to be, can you give us any idea,
given 75-percent load factor?
540
Mr. Hardenstine. If we were operating out of the primary areas,
here again you would be in the situation of attempting to find space
at the primary airport to do a good job for the public and to provide
a good passenger service situation. I think that the use of the secondary
airports and the use of passengers coming to the secondary airports for
a lower fare travel would by all means be the way that any thrift-class
service would take place.
Senator Kennedy. Had you given consideration to other routes, be-
sides the transcontinental flight ?
INIr. Hardenstine. No, we had not, not at the time.
Senator Kennedy. OK. Thank you very much. Can you stay with
us for just a little while ?
[The prepared statement of Mr. Hardenstine is printed at the end
of the oral testimony of the airline panel, pp. 365-73, below.]
Senator Kennedy. Our next witness is Mr. Raymond J. Rasen-
berger, representing North Central Airlines.
For the past 10 yeare, Mr. Rasenberger has been a partner in the
AVashington, D.C.,'law firm of Zuckert, Scoutt, & Rasenberger.
Mr. Rasenberger has submitted a vei-y illuminating statement to
the subcommittee, which describes the legal and practical ramifications
of the CAB's route moratorium and points out the problems raised
under the Federal Aviation Act and the Administrative Proce.dure
Act. We want to thank you, Mr. Rasenberger, for focusing on the
procedural implications of the Board's route freeze. This subcom-
mittee is concerned with administrative procedures, and your state-
ment has aided our work. I would appreciate it if you would briefly
summarize your statement for us.
Mr. Rasenberger. Thank you, Mr. Chairman.
I will summarize my statement.
As you mentioned, we are here at the request of the staff to talk
about the CAB so-called route moratorium. We are not here to discuss
the merits of any cases pending before the Civil Aeronautics Board —
as distinguished from the procedural history of cases ^\e have pre-
sented. The merits of cases are things we will deal with before the
Board.
cab's "route moratorium," 19 69-19 74: HISTORICAL PERSPECTIVE
We are also not here to join in any broad attack on either the
Federal Aviation Act or the CAB. Of course, we have had many
liisagreements, and the route moratorium is certainly one of the major
ones, but on the whole we have worked under an excellent statute.
And we think the CAB, looking at it from a longer and broader view,
has done a very credible job in administering that statute.
I hasten to add we are not saying no changes should be made in
the act at all. As a matter of fact, we think these hearing-s are very
useful in oi'der to consider the possibility of change.
What Ave are saying is that we do not think radical changes are war-
T-anted, and especially changes involving unregulated entry and exit.
With respect to the route moratorium, as you know, and as T think
the CAB staff has acknowledge, the moratorium began in 1970. As I
indicated in our written statement, for perspective, however, it is
useful to look before 1970. First, of course, at the language of the
541
statute itself, which calls for public hearings as speedily as possible,
and which supports the idea of competition. Second, at the history of
aviation before the 1938 Civil Aeronautics Act, which seems to me to
underscore the importance of both public hearings and competition.
Then it is useful, I think, to look at CAB history between
World War II and 1970. During that long period, the CAB did hear
a lot of route applications. It did grant a lot of routes, and it certifi-
cated, and many people seem to forget this, a large number of new
airlines. In short, it built the system we have today.
North Central is a primary example of what that building process
could and did accomplish. When North Central was certificated in
1946 it was operating two five-place Cessnas out of Clintonville, Wis.
Last year it carried 4i/^ million passengers, serving 90 cities, mostly in
the upper Midwest but going all the way from New York to Denver.
While North Central's primary mission still is today serving these
smaller cities, it also serves a number of large routes where it provides
strong competition for some of the grandfather carriers, such as
United and Northwest and Western.
Now, a great deal of North Central's development as a strong com-
petitive carrier took place by virtue of those route awards particularly
in the last half of the sixties. That is why the route moratorium has
had a particularly dramatic impact on us. Since 1969, no applications
for competitive service by North Central have been set down for hear-
ing by the CAB.
There is one exception to that, an application that was set down in
1970. But that case has never gone forward since that time.
Now, this has not exactlv been what you would call a self-imposed
moratorium. North Central is a young, very strong, aggressive airline.
It wants to compete. It tliinks it kiiows how to run a tight ship. It has
been able to make money year after year when many other airlines
have not, even witli one of the worst route systems. In other words, it
thinks it can compete effectively with larger carriers and it wants the
opportunity to provide more of that kind of competition.
EXAMPLES OF NORTH CENTRAL ROUTE APPLICATIONS NOT HEARD BY CAB
That is why we have found the route moratorium so frustrating. In
my statement I have given three examples how that moratorium has
impacted on us.
One was an application filed in 1972 to give nonstop competition
between Detroit and Boston. That market is the largest monopoly
market in the Ignited States with about 600 origin and destination
passengers a day. Today it actually has less service than when we
sought a hearing.
We filed that application and a motion for expedited hearing. The
principal civic parties supported us at both ends of the route, including
civil parties beyond Detroit in Michigan. After 9 months, the CAB
denied that motion for hearing. A petition for reconsideration was
denied 7 months later.
Another example was our application for Milwaukee-Denver non-
stop authority. INIilwaukee-Denver is a United Air Dines nonstop
monopoly, and has been one since 1946. Since 1969 we filed once for
single plane one-stop authority in the market. Later we filed two mo-
542
tions for expedited hearing for nonstop authority. In these cases wp
Avere, of course, supported by the cities such as Milwaukee and Denver.
We have had no success in getting that application heard, although
I should emphasize there have been dissents among Board member^
on this question.
The third example is Milwaukee-Philadelphia. That is a market
where the CAB found in 1970, at the conclusion of a long case, that
competition was needed. It was a United monopoly at that time. The
Board, therefore, certificated Northwest to compete. In 1972 United
dropped its service in the market. By the start of 1973 Northwest had
yet to begin the service it had been authorized to provide. So in 1973
we filed an application, supported by Philadelphia and Milwaukee
and ports beyond Milwaukee, to have us certificated to provide that
nonstop service. Our motion for a hearing on that application was
denied 2 days after Northwest inaugurated a single nonstop flight.
That is the service the market is still getting, one flight from North-
west, still none from United.
DIFFERENCE BETWEEN DENIAL. OF HEARING AND DISMISSAL
Now, let me emphasize something about each of these three examples.
The issue that we presented to the Board was not whether to grant our
application, but whether to hold a hearing on it. If a hearing had been
scheduled, obviously the applications of other carriers would have
been heard. There was a very good chance that some of those appli-
cations would have been granted in lieu of our own. There was a very
good chance that no one's application would have been granted. But,
to us at least, there is a big difference between denying an application
after hearing and denying it by refusing to hear it.
A decision that is made after a hearing has to be made on a public
record, where the forecasts and all the allegations of all the parties,
including the CAB staff, are open to review and cross-examination.
And that hearing process imposes on the agency a discipline, the dis-
cipline of making a record and of making findings based on that rec-
ord. Those findings, of course, are reviewable by courts, which is not
true in general of decisions not to go forward with hearing
applications.
When the Board refuses to hear an application it usually does so on
the basis of internal staff memorandums which are generally not sub-
ject to challenge by other parties or, as I said, to review by the courts.
SUGGESTIONS FOR REFORM
Now, the question has been raised as to what ought to be done to
change all this. We have only a few preliminary thoughts on the mat-
ter. Senator, but let me give them to you. First, we think the Board
ought to hear every application it can hear as speedily as possible.
Now, we recognize that unless the Board gets more staff it can not
hear every application that is filed. It is going to have to pick and
choose. But we think that picking and choosing ought to be on the
basis of public interest standards that are adopted after public pro-
ceedings. We think further those standards ought to be simple and oh-
543
jective standards, and deal with questions like is there competition in
the market ? How long has it been since we last considered this market ?
What are the traffic flows in the market ?
We are inclined to think the standards should not be based on fore-
casts. It seems to us that is the very function of a hearing is the prob-
ing of forecasts. That is the basic difference we have with the standards
suggested recently by the CAB staff in their route study. They would
require all carriers to make elaborate forecasts in order to get a hear-
ing set down on an application, those forecasts would be taken up by
the Board staff, outside the hearing room, beyond the reach of an
administrative law judge, and beyond the opportunity to cross-
examine. In effect, what the staff' has proposed is standards that might
be appropriate for a decision by the Board on the merits that these
standards be applied at the threshold of the case on the question of
Avhether to grant the hearing. In other words, the same kind of stand-
ards would be used for managing the Board's docket as for deciding
a case. We think that kind of confusion can result, and in the past
5 years has resulted, in denying hearings which the statute calls for.
Now, as I pointed out in our statement, the question of what are
the proper threshold standards is not a simple question, and our views
are at this point only preliminary. We intend to give this more thought
and to respond to the Board's invitation to comment on it.
But meanwhile, Ave do appreciate the fact that your subcommittee
considers this problem serious enough to warrant your own thought-
ful attention to it. Thank you.
LEGALITY OF "rOUTE MORATORIUM"
Senator Kennedy. Thank you very much.
I would like to ask you, if I could, why you do not take legal action
against the route moratorium. You have outlined in your testimony
how the Federal Aviation Act, in section 401(c), states that applica-
tion shall be set for public hearing, and that the Board shall dispose
of applications as speedily as possible. In your opinion as an attorney,
do you think the Board's route moratorium violates that provision?
Mr. Rasenberger. I would say a consistent and unannounced policy
of refusing to hold hearings on applications violates the act, yes, sir.
Senator Kennedy. And then section 6(a) of the Administrative
Procedure Act states that, with due regard of the convenience and
necessity of the parties or their representatives, and in a reasonable
time, each agency shall proceed.
As you point out in your testimony, this was meant to create a legal
requirement that no agency fail to conclude a case. Do you think the
CAB's refusal to conduct hearings on route applications violates that
particular section?
Mr. Rasenberger. I would say yes, unless it is clear, and CAB would
have to answer this, unless it is clear that they did not have the re-
sources to hear any of those applications. Now, if they did not, some-
thing happened very suddenly in 1970 to deny them the necessary
resources. If an agency has the staff resources it ought to devote them
to trying cases, whether it denies all applications or not. I think that
is what the act intends.
544
Senator Kennedy. Do you know of your own knowledge whether
staff shortage has been used as a justification for refusal to hold
hearings ?
Mr. Rasenberger. In denying a hearing on our Detroit-Boston
application the Board gave a number of reasons, but one of them was
that it was busy with rate cases.
Senator Kennedy. What about the other reasons ?
Mr. Rasenberger. Well, the others had to do with impact on the
incumbent carrier, which seemed to be of considerable concern to the
Board. It was also said we had not shown that the service was mate-
rially deficient, or would involve substantial benefit to the public, or
that we could make a profit on it. That pretty w^ell took care of it.
Senator Kennedy. You thought you could ?
Mr. Rasenberger. Obviously we thought so and we still think so.
These questions of what is deficient service and what is of substantial
benefit to the public is also questions of judgment. We think that
when a large monopoly exists, regardless of load factors, service is
materially deficient.
susceptibility of route moratorium to court challenge
Senator Kennedy. If the CAB is in fact violating the law, and it
seems from your testimony you believe it is, why can you not as an
aggrieved party take the matter to the courts and get some relief ?
Mr. Rasenberger. It is very difficult. Senator, because what you
would take to court is an order in one case, and what you are dealing
with is a policy which is not announced and wliich is reflected only by
the accretion of case-by-case denials. You cannot take a bunch of cases
to court. You have got to take one, and in no particular case can you
prove on the record of that case, or at least it is very difficult to prove,
that the decision was pursuant to a general policy of a route morato-
rium.
As you perhaps know, the courts are reluctant to interfere, and
properly so, I think, in questions that involve the agency managing its
own clocket and questions of agency discretion generally of that type.
That is why, in a way, a moratorium is such an insidious "way of dealing
with applications, because it is so hard to get judicial review.
Senator Kennedy. So, in effect, the inaction has the effect of making
the Board's policy immune from any kind of judicial review?
Mr. Rasenberger. Well, it makes it difficult. I do not know, if Ave
went to the court of appeals today, or a lower court and explained this
long history of a moratorium, which the CAB staff has now acknowl-
edged existed, whether perhaps we could make a case. But in any case
we have not done so and have no plans to do so.
Senator Kennedy. If they made a ruling in any of these cases ob-
viously you could go to a court and appeal the ruling, but the practical
effect of tlieir decision not to hear a case is that it is concluded, without
the opportunity of judicial review— with the qualification that you
indicated in the last response to my question.
Mr. Rasenberger. That is right. I do not mean to suggest if they
held a hearing and denied all applications it would be that easy to ob-
tain a reversal. The Board could make findings and has done so. In at
least one case now being appealed they decided the market did not
545
require additional service. If those findings could be based on the
record and if they Avere otherwise properly related to the statutory cri-
teria, the Board's decision not to grant a hearing Avould be upheld,
presumably, by the courts. But the point is that requires the kind of
discipline and thoughtfulness that is not required by the process of
denying a motion for a expedited hearing.
Senator Kexnedy. In any event, it is running quite contrary, cer-
tainly to the spirit, and I think in these instances to the letter, of legis-
lation, and obviously no applicant should be required, under any type
of governmental process to go through the kind of extraordinary
lengths which you have described as being necessary, in order to seek
some remedies.
SMALL-TOWX SERVICE (CROSS-SUBSIDY)
Earlier in your testimony you spoke about air service to weak points,
connecting stronger points. Are you raising the cross-subsidy issue
here, and can you provide us with any examples for the record of cross-
subsidy on North Central's routes ?
Mr. Rasenberger. Yes, sir, I am suggesting the system we have to-
day involves a great deal of cross-subsicly. I know there are many who
feel that is not the way to go about it. But that is the system we have
had. We have built it for 30 years, and North Central is a perfect
example of that system at work. We serve many small weak points
which we could not afford to serve, even with subsidy, except for the
profits thrown off from some of our stronger routes. That is why the
Board gave us those stronger routes, and the way we oj^erate involves
a sharing of profits from stronger routes as an offset to the subsidy
needed on those weaker routes.
In addition to what you would call internal cross-subsidy situations
within North Central, I think the whole system, the whole system of
intercarrier operations, involves cross subsidy with traffic. In other
words, our weak points, and we serve many of them, all funnel into
Chicago. We are providing traffic support at Chicago for many larger
routes out of Chicago. The existence of those larger routes provides
service opportunities at Devil's Lake and other smaller points which
need service to Cleveland and other places that they cannot get on
one carrier.
Senator Kennedy. We would be interested in that particular issue.
I won't take additional time, but we might inquire further about your
airlines, and perhaps about others as well.
Mr. Rasenberger. We will be happy to cover that, sir.
Senator Kennedy. Fine.
Thank you very much. I hope you will be able to stay with us in
case we have some issues that come up that we might hear responses
from.
[The prepared statement of Mr. Rasenberger is printed at the end of
the oral testimony of the airline panel, pp. 573-80.]
Senator Kennedy. We will hear from Mr. Wexler of Continental
Airlines, where he is now the senior vice president of international
and governmental affairs. Mr, Wexler was a Fulbright scholar at Ox-
ford, holds an M.B.A. from Harvard, and earned the Legion of Merit
in the Air Force.
51-146 O - 76 - pt. 1 - 36
546
I especially want to thank you, INIr. Wexler, for providing the sub-
committee with such a thoughtful and complete statement. The sub-
committee's work will be much more fruitful if the airlines themselves
think about these issues seriously, and Continental has certainly done
that. I would appreciate it if you could briefly summarize the main
points of your statement, especially your statement that competition
and route awards benefit the public, your views on free entry and how
that has worked in California, and the effects of free entry on service
to small communities and acquisition of aircraft.
Mr. Wexler. Mr. Chairman, thank you.
I am accompanied by Mr, Thomas Finney on my right, who is
"Washington counsel for Continental and a member of our board of
directors.
At the outset, Mr. Chairman, let me say that we fully concur with the
closing comments of your statement of December 16 on the floor of the
Senate where you mentioned the need for revitalization of the Civil
Aeronautics Board and the possibility of some legislative changes.
As we stated in our letter to you of December 20, we think the act is
basically sound, the regulatory framework that the Congress estab-
lished is perfectly sound, but it may need some modification.
The Board functioned very well for about 13 years, and it developed
the world's "finest air transport network.*' I believe it is the most ef-
ficient in the world, certainly the most extensive, and also by any
measure the most competitive.
But of recent years, the Board has adopted certain regressive poli-
cies that have inhibited the further development of that very system.
I shall highlight some of those.
We firmly believe that the regressive policies adopted by the Board
must come to an end in the public interest. Specifically we urge the
following changes :
cab's "route moratorium" 19 69-74
First is the expanding service to the public. The Board has had
a freeze on new route awards since 1969. This freeze was never jus-
tified and should be brought to an end. The oftheard generalization
that the economic problems of air carriers are the result of too much
competition in the air transportation system is nonsense. The route
awards of the sixties were in now way responsible for the losses car-
riers sustained during the 1970-71 recession. During that period, the
smaller, more efficient carriers pulled through with small profits.
It was the big carriers who suffered. They simply couldn't respond
to changed economic conditions with sufficient rapidity because of
their size. Moreover, the two carriers which suffered the greatest num-
ber of new route awards to other carriers in their major markets,
namely Delta and United, have remained highly profitable. The reason
is that they are well managed and even the substantial new route
awards of the late sixties are relatively insignificant in their economic
impact on the incumbents or the carriers granted awards.
The prime beneficiary of new route awards is the public. New route
awards are essential to assure the continued growth of a network of
air transportation to meet the needs of all communities. New route
awards also assuer a competitive industry, responsive to the public
547
needs. Carriers will provide effective service so long as the threat of
additional carrier certification hangs over their head. Without that
threat, we become lax and seek to extract maximum profits from our
routes — often at the public expense. Moreover, new route awards are
the proverbial carrot that keeps us pulling our carts.
cab's staff study, the domestic route system (1974)
I might note that the recent study published by the Board's staff
purporting to set standards for route awards in the future is no more
than an outgrowth of the Board's recent regressive policies. The study
proceeds from the wrong policy objective: the protection of carrier
profitability. The underlying objective should be to meet the needs of
the markets and to properly serve the public. For example, the study
urges that competition not be certified unless the incumbent has a 6-
percent overall rate of return. That has nothing to do with need of
a particular market. The study also urges that competition should
only be certificated when the incumbent and the new carrier can each
achieve a 12-percent rate of return in the market involved for the first
year of competitive operation. This substitutes carrier profits for
public service and the benefits of competition. The study also urges
achievement of a 55-percent load factor before competition can be
certificated. Load factor alone is not the test of whether a market needs
or can reasonably support competitive service.
As Congress and the Board have recognized in the past, competition
is beneficial in and of itself. In the Board's own words :
Competition invites comparison as to equipment cost, personnel, organization,
methods of operation, solicitation and handling of traffic, and the like, all of
which tend to insure the development of an air transportation system as con-
templated by the Act.
These important benefits of competition seemed to have been over-
looked by the Board in the recent past. If I may say, when I use the
word, I wish to make the point there has been a healthy disagreement
between members of the Board.
OTHER NEEDED CHANGES IN CAb's POLICIES
Next, the Board should take immediate steps to liberalize carrier
operating authority. Every carrier is hampered in its service by out-
moded restrictions, imposed years ago. The justifications for many of
these restrictions have disappeared.
Third, the Board should stop trying to manage carrier service
policies. Its restrictive seating standards controvert the statutory man-
date to leave schedules, equipment, accommodations, and facilities to
the discretion of carrier management. At the same time, the Board
should be encouraged to set standards of efficiency for determining
rates. "We supported the adoption of such standards and the expansion
of the elements of carrier efficiency to be tested. The Board should
however, leave actual operating decisions to carrier management.
Fourth, the Board should give the carriers much greater freedom to
experiment with promotional fares and to compete with lower fares.
The Board's present policies are too restrictive and put a damper on
experimentation which benefits the public and benefits the industry.
548
Fifth, the anticompetitive capacity restraint agreements should be
broii(?ht to an end. These agreements were approved on an emergency
basis due to the f aihire of the Big Three and Pan Am in 1970 to respond
with sufficient rapidity to economic adversity. They have been extended
with the rationale of fuel conservation. Today, they have simply no
justification.
None of these changes require any legislative action. In fact, all are
consistent with the existing statutory requirements, key among which
is the competitive mandate of section 102(d). All of these re.oressive
Board policies requiring reversal presently are being tested before the
U.S. Court of Appeals for the District of Columbia on the basis that
they are contrary to the statute. "We have three such actions pending,
as I mentioned earlier. The Justice Department is contesting the capac-
ity restraint agreements.
Earlier, the Department of Transportation and the Department of
Justice so testified on behalf of that pro])osal. Thus it is our view-
that a significant change in direction is needed and can be obtained to
a large extent under the present statute. If changes are necessary, they
are largely changes to reinforce procompetitive provisions already
set forth in the statute.
[These non-entry suggestions by Continental are discussed in more
detail in the testimony of Mr. Finney, counsel, Continental Airlines,
on February 25, 1975, pp. 1220-42, below.]
continental's position on open entry
With regard to the matter- of open entry, I have in my written testi-
mony considerable discourse on the California experience. To sum-
marize it, prior to 1965, California had \dii;ually open entry. It did
have open entiy. At the time there were 16 airlines operating within
the State, 14 of which went bankrupt there were two survivors. The
State of California in its wnsdom adopted an act quite similar to our
Federal Aviation Act, and today there is quite vigorous controlled
entry in the California intrastate markets. In fact, no intrastate Cali-
fornia carriers have point to point competition.
Let me close on a position note. The Civil Aeronautics Board in a
1950 decision stated that:
An objective reading of the Civil Aeronautics Act leaves no doubt that the
lawmakers considered competition to be a desirable objective which should be
established wherever it is economically feasible and will contribute to the
development of a sound national air transportation system.
I hope that this subcommittee and this Congress will bring to bear
its energies to tliis end, but we have a basically sound system and a
good statutorv framework. Let's try to make it work as Congress in-
tended in 1958 before altering it and destroying our effective network
of air transportation.
cab's staff study, the domestic route system (1974)
Senator Kennedy. Very fine testimony.
As T gather from your testimony, the proposed criteria set by the
Board's BOK in their January statements on route making, you feel
move us very little down the road toward the benefits of competition,
which you stress A^ery extensively in your statement?
549
Mr. Wexler. I assume, Mr. Chairman, you are referring to that
staff study ?
Senator Kennedy. Yes.
Mr. Wexler. 1 think that is simply a perpetuation of the existing
route freeze only in a more rigid system. I think as an example, where
they put a criteria of 6-percent rate of return on a carrier before it
can be subject to competition, a carrier can be terribly inefficient, give
very poor service, operate below a 6-pei'cent rate of return and the
public would be dooined. It would not have the benefit of competition
under that type of criteria.
results of open entry
Senator Kennedy. Have you had a chance to read Professor Jordan's
testimony on the California experience?
]\Ir, Wexler. No, I haven't.
Senator Kennedv. I wonder if you would take a look at it and give
us your reactions on it, because it goes into a number of areas which
you mention in your testimony but which haven't been elaborated on
here. I think it would be very useful for us if you would be kind enough
to take a look at that.
[The reference is to the testimony of Dr. William A. Jordan before
this subcommittee on February l4, 1975, p. 452 ff.. above. In re-
sponse to the chairman's request, James L. Mitchell, vice president of
regulatory proceedings. Continental Airlines, submitted comments on
Dr. Jordan's testimony. Dr. Jordan then replied, and Continental com-
mented on his reply. These documents are printed after the prepared
statement of Harvey Wexler, p. 587 ff., below.]
Mr. Wexler. I think the point is, INIr. Chairman, California today,
unlike pre-1965, does have free regulated entry.
Senator Kicnnedy. One of the points Mr. Jordan made was a pre-
diction that free entr\' would cause a large expansion in the number
of airlines. He estimated perhaps many new airlines while others
tliink an open entry policy would lead to onh' a small number of air-
lines. I wonder if you might be able to elaborate on your thinking
on that issue.
Mr. Wexler. Well, we believe that under a system, total free entry,
that you Avould end up with a handful, maybe 2 or 3 huge giant car-
riers, they would end up being high-cost operators. We believe there
would be a limited amount of service. We believe that there is quite apt
to be predatory practices, and we think it would be in violation of
everything that the Congress intended insofar as the U.S. air trans-
portation system.
Senator Kennedy. What weight do you give to the threat of monop-
oly prices in a system with open entry? Isn't it possible that other
firms would come into the market and charge lower prices ?
Mr. Wexler. Well, sir, I think that today the operation of large
jets it requires a great deal of capital and the air transportation sys-
tem, particularly in the trunkline markets, as a capital intensive in-
dustry, and under the classical theory of their high profitability there
would be new grants, and that simply hasn't worked. It hasn't worked
in other industries. There has been a corrolation not only in the United
States but abroad that capital intensive industries, over the years
550
there gets to be a greater and greater degree of concentration, and I
see no reason why it wouldn't happen in air transportation.
Senator Kennedy. There have been some examples of airlines,
Southwest in Texas, for example, which started out several years ago
without CAB protection, and they were able to get 100-percent financ-
ing on their jets, and began to compete with CAB carriers and made
good profits. As I understand it, the supplemental carriers, too, have
been able to buy big jets with no route security.
I am just wondering, in your own thinking, how you would respond
to their presence ?
Mr. Wexler. I think there are two aspects, Mr. Chairman. One is I
am not necessarily referring to route security, but certificate security.
In the case of Southwest Airlines, like PSA, like California, they do
have certificate security.
Senator Kennedy. Did they when they started ? That is the point ;
isn't it? You said a new airline would have trouble getting capital,
but PSA was able to raise capital when it began operations, without
a certificate.
Mr. Wexler. Admittedly at that time the market was not as capital
intensive. As I mentioned earlier, in California
Senator Kennedy. Let's take the example I have given here. I have
just responded to your point that there Avould only be a small number
of airlines because of the capital intensiveness. I gave you the example
of an airline that didn't have any secure route structure and was still
able to get 100-percent financing. I am Avondering whether this is a
peculiar set of circumstances or whether it begins to refute your
argument.
Mr. Wexler. I am not intimately familiar, Mr. Chairman with the
Texas situation.
Senator Kennedy. That is fair enough. If you could just take a
look though, at the Jordan testimony and give us your reactions, it
would be very helpful, because he has obviously given a great deal of
thought to this.
Just returning to the CAB staff study on the domestic routes, doesn't
it set out criteria specifically directed at pi'eventing new low cost, more
efficient competitive service, rather than promoting it?
Mr. Wexler. That is entirely correct, Mr. Chairman.
Senator Kennedy. All right. Thank you.
[The prepared statement of ]Mr. Wexler is printed at the end of the
oral testimony of the airline panel, pp. 580-87.]
Senator Kennedy. Our next witness is Mr. EdAvin Colodny of
Allegheny Airlines. Mr. Colodny joined Allegheny Airlines in 1957
and is now executive vice president of marketing and les^al affairs.
Previously, he was a trial attorney for the CAB and the GSA.
We liave revicAved your statement, Mr. Colodny, and the full text
Avill be made part of the record. I Avant to thank you for talcing the
time to prepare it. I Avonder if you could briefly summarize the major
points in your prepared statement, including the part dealing Avith the
groAvth of Allegheny under Federal regulation, the point you make
about freedom of entry and exempt commuter carriers, and your recent
experience with route applications filed by Allegheny before the CAB.
All of the testimony this morning Avill be made a part of the record
and Ave Avant to thank you for preparing it.
551
Mr, CoLODNY. Thank you, Mr. Chairman.
We are pleased to be inchided in the list of companies invited to
participate in these vital hearings concerning the f nture course of regu-
lation in the U.S. domestic air transport industry.
I will summarize as best I can what I have set forth in the prepared
statement, first emphasizing that we support the continuation of the
Federal Aviation Act of 1958, which we think by and large has been
a success. We think so because of the ability to move by scheduled
air carrier on a convenient basis throughout the United States as being
the primary objective of the statute.
The safety record of this industry is also remarkable and will un-
doubtedly continue to improve.
DESCRIPTIOX OF ALLEGHEXY AIRLINES
As for Allegheny itself, our growth has produced a unique airline.
Ten years ago we carried IV2 million passengers, and today we are
the largest of the regional carriers, serving about 11 million passengers
a year. With our tremendous growth in assets during that period,
paying no cash dividends except in 2 years, but achieving a milestone
in 1974: by receiving no Federal subsidy.
Our record has been due to three primary sections in the statute.
First, route grants. Second, mergers with two other carriers. Lake
Central and Mohawk. And third, the approval of the Allegheny com-
muter agreements which the CAB has permitted Allegheny to use to
suspend service at loss points in favor of independent commuter
operators.
We provide a lot of service from the Mississippi River to the east
coast.
Prior to 1965 the CAB had not permitted the local service carriers
to serve the short- and medium-haul service markets, but in that year
it shifted its policy to permit this. We were a vigorous applicant in
several cases.
We haA'e concentrated our jet fleet on one 100 passenger, twin-engine
DC-9/30 aircraft in single configurations at coach fare level. We
emphasize convenient service with necessary amenities. However, no
first-class compartments and no free liquor.
We are a strong competitor against carriers such as United, TWA,
American, and Delta, offering a wide range of discount fares.
At the same time we were developing as a major competitor in the
short-haul markets, we started the commuter in 1967 in Hagerstown,
Md. This was a very successful program which is well known in the
aviation community. Twenty-seven cities now receive service from 12
independent air carriers under contract to Allegheny. They generated
over a million passengers last year, primarily to and from smaller cities
which previously would only generate few passengers with limited
frequency and heavy subsidy.
By and large these were the kind of communities receiving limited
benefit from a policy of free entry which already exists.
RESULTS OF FREE ENTRY
We appreciate the concern of the subcommittee as well as the con-
cern of some persons both within and outside of the government that
552
our regulatory schemes by restricting freedom of entry or exit, has led
to higher-cost air service than need be paid by the traveling public.
In my opinion freedom of entry would do nothing to reduce the price
of air travel at the small and intermediate cities in this country. The
public interest in the small cities is less likely to be related to the price
of air transportation as it is to the availability.
As the Senator and the subcommittee are well aware of the problem
in New England, which was recently concluded by the award of a cer-
tificate to Air New England where they were not trying to get cheaper
but adequate air travel. Had freedom of entrj^ been a success in north-
ern New England, it would not have been necessary for CAB to cer-
tificate Air New England.
I have speculated as to what might have been Allegheny's policy
toward small loss points had we had freedom to exist without CAB's
approval.
It is questionable whether the Allegheny commuter concept would
have been created and most of these 27 points would have simply dis-
appeared from the scheduled airline map.
What about larger communities and city-pairs generating large
traffic pools. The CAB study which was recently released has a good
deal of important information in it. Allegheny's system is as shown
in exhibit 1. Fifty percent of our total passengers enplane and deplane
on just 39 pairs of points, that is 11 percent of the total of 369 pairs
of points which we serve on a single plane basis.
Now, a lot of these larger markets that we serve act as a conduit for
service between many pairs of points. For example, our Chicago-
Pittsburgh services also serve Chicago to points such as Wilkes-Barre,
Scranton, and Allentown, Pa., and our flights over the Philadelphia-
Pittsburgh segment also serve cities such as Albany, Hartford, Provi-
dence to the oast and Erie, Columbus, Dayton, Louisville, and Indian-
apolis to the west.
In scheduling our system we evaluate the flight as a whole for profit-
ability, since the traffic flows are made up of a series of individual
markets and we have set forth in our statement how that is broken
down.
An example of the Philadelphia-Pittsburgh segment would show, if
restrictions were eliminated on entry, this segment could be attractive
to a person investing in a small fleet of jet aircraft, perhaps two or
three units to get into business, slash the price and attempt to drive
Allegheny and TWA out. We would have to have to choose between
meeting the competition by a combination of price or service adjust-
ments.
We think that anything that destroys the system that we have in
order to benefit a few markets should be very, very cautiously
approached.
It is conceivable that a few large concentrations of traffic would
benefit by freedom of ent^^^ I have no doubt that Los Angeles and
San Francisco to New York or some of the Chicago markets might
benefit. But before you consider going this route T would suggest very
strongly that you would have to consider as concomitant a breakup of
largo carriers such as United, TWA. and American before you could
ever logically proceed to freedom of entry. The predatory nature of
553
our industry is such that we will eat our young, we will go after other
carriers' markets, if given a chance.
We should ask ourselves what the domino effect would be. Carriers
forced to withdraw from their markets would look for other places to
fly the aircraft in which we have invested. There is no easy answer to
this Pandora's box. We also urge that you take a good look at a major
reason for the increased demand for low-cost air service, the loss of
youth and family plan fares. I think if this is approached by reinstitut-
ing these two fare programs we will go a long way toward meeting the
public need for low-cost service.
A major burden is also being imposed by the cost of fuel, which in
Allegheny's case is 110 i)ercent higher in 1975 than in 1973. We also
urge that you look at the cost of operating the ground portion of the
air transport system, noise and environmental costs, which are all
passed on to the user.
But so much for those things which you should look at. Obviously
there are things which we as airlines must do to control the cost of our
business. We must reexamine the technological side of our business to
avoid premature obsolescence. AVhile unit cost improvement which
came about through jet development, and which obviously has been a
tremendous boon to the country, future development must proceed on
the theory of improving the productivity of the aircraft in that neces-
sarily increasing the size of the machine. If the Congress adopts a pro-
gram which permits freedom of entry, the airlines would be faced
with the impairment of the stability of their investment capital and the
ability to raise long-term funds.
In the case of Allegheny, our interest expense last year was $12 mil-
lion on our funded debt.
In summary, we do not believe freedom of entry is really the issue.
There are numerous certificated airlines available to do the job, pai:-
ticularly the local service airlines and smaller trunks. We are willing
to invest money and expand service at reasonable prices. Since the late
sixties the CAB has in effect created eight regional trunklines who ef-
fectively compete in many markets with the larger carrier. AVhile we
urge the Congress not to disturb the sections of the act dealing with
route entry and exit, there are some things which do need attention and
in which congressional interest can be beneficial. One is the vexing
problem of route moratorium which the CAB imposed by indirection
in 1970 and 1971. The downturn in the economy which occurred at that
time was properly recognized by the CAB as requiring a slowdown in
the new route authority.
Senator Kennedy. Could you summarize these last witnesses'
points ?
Mr. CoLODXY. In the case of the comments made by Mr. Rasenberger
and Mr. Wexler, we generally think that the Board can correct the
situation without a change in statute simply by moving forward with
setting cases for hearing, and particularly cases involving monopoly
markets where trunklines sit on dormant grandfather rights and do
not provide scheduled service.
Thank you very much, Mr. Chairman.
Senator Kennedy. Is not really the thrust of your testimony that
you have some real concerns about additional competition coming into
local service carriers' markets under an open entry policy, because of a
554
threat of predatory practices, and the other reasons yon mention ? It
seems yonr profits having gone up pretty well, rising from $26 million
to $366 million.
Mr. CoLODNY. Obviously, Senator, we are concerned about our com-
pany on a self-interest basis first. As I point out, the domino effect of
creating open entry, taking for example United Air Lines with a very
large fleet of two and three engine aircraft which are quite suitable
for serving many of the Allegheny markets, there is no way of predict-
ing what would happen under a free entry system such as Professor
Jordan suggests with 100 or 200 airlines each serving a small segment
of the Industrie's requirements. We do not know what the impact would
be, but it is true, we are concerned with our own system, and we do not
see open entry as giving us an opportunity to make it up by operating
profitably in somebody else's markets.
Senator Kennedy. Of course entry may be a threat to the profits
of your airline. The question is. What does free entry mean to the
public as well, in terms of accessibility to air travel and cost ?
Quite frankly, I am troubled by some of the words that we hear
during the course of these hearings. On the one hand, people in the
industry — and I am not directing this comment specifically at your
testimony, but just as an observation generally, having listened to the
testimony for a few days — speak of the problems with a policy of open
entry and freer competition, the dangers of predatory price competi-
tion and chiseling. On the other hand we hear the same policies de-
scribed as encouraging healthy price competition. It almost seems as if
it were a question of whose ox is getting gored. On one hand free entry
is portrayed as the free enterprise systeui, and on the other hand it is
a scurrilous group of fly-by-night operators and chiselers getting into
the market.
Mr. CoLODNY. It does sound as if we talk out of both sides of our
mouth, and sometimes we do.
Senator Kennedy. Perhaps that is true on this side of the table as
well.
Mr. CoLODNY. The fact of the matter is that the philosophy as we see
it has been one of building a system, not a series of individual fiefdoms,
but a system of domestic air travel. It is the same way — we built a sys-
tem in other fields in this country through our taxation, social security
taxes and what not. Of certain peo})lc paying for benefits of other
people. It is no different in air travel. Tliere is a public interest in
having tliis system.
Now, there has been open entry in the automotive manufacturing
business for a good number of years, and yet there are only three large
companies dominating that whole deal.
Senator Kennedy. You do not think General Motors sets the price
for all the others ?
Mr. Colodny, I probably over stated it, it may be only one manu-
facturer dominating the scene, but I am frankly not close enough to
know. But we do have a public interest in having demographic dis-
tribution of our population. We do have a public interest in seeing
that smaller cities can survive. We do have an interest in seeing some
decentralization from our larger urban centers, and all of these things
are part of Avhat is involved in maintaining this system of air trans-
port. Admittedly, it may not be the cheapest, but in terms of value I
think we deliver a very fine product.
555
CROSS SUBSIDY (SMALL-TOWN SERVICE)
Senator Kennedy. If cross-subsidy does occur, I think the public
is entitled to know, in terms of this cross-subsidization, what they are
paying for. ^Ye have been flying back and forth, up to Boston and on
other routes, and now we find out we may have been paying extra
high prices in order to subsidize Peoria, and yet we cannot find out
for certain. We ask the airlines and they respond that it is too complex,
they cannot provide specific examples. I do not understand why the
airlines cannot tell me exactly what we are paying for, what we are
subsidizing on particular routes. Why should not that be right out in
the open rather than hidden away in the fare structure? And if it
can't be identified, then perhaps there is no cross-subsidy.
Mr. CoLODNY. I think it is out in the open first in two respects. First,
the two phase 9 fare structure decision of the Civil Aeronautics Board
lays it out very clearly that the fares will be based on cost and not
on any other factor.
Senator Kennedy. If fares are cost-based, there is no cross-subsidy.
Is there cross-subsidization ?
Mr. CoLODNY. Absolutely.
Senator Kennedy. Phase 9 is against that. Is that correct ?
Mr. Colodny. No, I think the cross subsidization occurs not in terms
of yield per mile but in terms of traffic density.
In the case of Allegheny, we provide services both to the cities
which are classified as subsidy eligible and cities which are subsidy
ineligible, market pairs, such as Chicago-Pittsburgh have no subsidy,
Binghamton to Boston is. We can provide, and all the local carriers
do provide a breakout of the cost of their subsidy eligible services
to the CAB every 6 months, and that breakout shows the deficit at
the operating level or at the net level of operating all these loss
operations.
The other side of the equation is a compilation of the profits, if any,
of the subsidy ineligible services, and those profits are being used by the
CAB to directly reduce subsidy. They are not being used however, to
reduce the cost of air travel. In the case of local airlines, it is the Fed-
eral Government who takes the cream off the top, so to speak, not the
public.
Now, in the case of the larger trunklines, I would rather let United
speak for itself, but I am absolutely sure they have the same process
going on in their system, and our cost allocation methodology in the
industry is not entirely perfect, but We do have a pretty good idea of
the level of profitability of a given market, and that can be provided
to the subcommmittee.
Senator Kennedy. We have heard that the California airlines serve
smaller communities at low fares without subsidy. We have had testi-
mony to that effect.
Mr. Colodny. I frankly am not familiar with the California situa-
tion, Senator. I skimmed Professor Jordan's comments over the week-
end, and frankly I was unable to tell whether that situation was
really comparable to that situation that we know.
We have some unique problems
_ Senator Kennedy. We are troubled because the DOT and the Coun-
cil of Economic Advisers indicate to us that there is very little cross-
556
subsidy. That is what they tell us, and then we hear from the airlines
that there is cross-subsidy, and that is why we brina these kind of
questions up.
I would be interested if any of the others want to make a comment.
It seems the public has frequent service with the existing network of
interrelated airline services. We get a high, perhaps excessive, fre-
quency of flights and a lot of service on those flights, but the public
has no alternative of less frequent flights and less service on the
flights, at lower fares. That alternative is not available to the Ameri-
can public. That is an observation I have made from the hearing both
this morning and the other day.
Let me ask you if you believe consumers should have that alternative
available to them ?
Mr. CoLODNY. May I just make one comment. Senator. The problem
most markets have is a lack of traffic density to warrant cutrate prices,
because even if you cut tlie prices low enough there are not enough
people interested in flying at any price between some markets in this
country.
Now, between Boston and Washington, Allegheny entered that
market — we hold a certificate for nonstop — we entered that market a
year and a half ago and thought we would take a whack at Eastern,
Delta and American. We put in 5 round trips a day and we lost a good
deal of money. Unfortunately the one thing we did not compete with
was price. I have no doubt we could have competed with price and had
a temporary advantage, but as has been pointed out, our fares would
have been matched and ultimately we would have had a problem
staying in the market, though I have a feeling that we will be back in
tliere some day soon, and perhaps with some new experimentation
that the subcommittee will be interested in.
[The prepared statement of Mr. Colodny is printed at the end of the
oral testimony of the airplane panel, pp. 620-29.]
Senator Kennedy. We will, and the public might have had cheaper
transportation as a result if you had gone in there, at a lower price.
Mr. DE VouRSNEY. I havc some data on cross-subsidy. United Air
Lines in 1974 operated at 698 one-way city-pair segments, with one or
more schedules, generally more. In 1974, which was a year of resumed
profitability for us, we had 21 percent of those segments or 145 with
revenues below variable cost. In other words, we were not recovering
our direct labor, landing fees, fuel, and oil. Fifty-five percent of those
segments, or 385 out of the 698 did not produce a profit before Federal
income tax.
[These figures were later revised by United Air Lines in letters to
the subcommittee dated February 28, 1975 and April 29, 1975. These
letters are printed following Mr. de Voursney's prepared statement,
pp. 635-37, below.]
Now, there is the best measure I can give you of the extent of cross-
subsidization. These segments include — I have numerous examples.
Senator Kennedy. Is this typical of recent years ?
Mr. DE VouRSNEY. I think if you go back into 1970, obviously the
percentage will be even greater, Jbut 1974 probably is a very good year
for this purpose. On a single month basis this varies, but this is for
the year as a whole. I have numerous examples.
557
Senator Kennedy, I do not want to take the time now, but if you
could provide these figures v\e would take a look at it. It would
be very helpful. Mr. de Voursney, I know you are interested in dano;ers
to the airline industry, and I want to thank you for your statement
and your views on how that would effect small communities, and your
views on the route freeze and how the CAB policy serves the public
interest.
Mr. DE Voursney. In a year such as 1974, with 55 percent of those
route segments not earnino- a pretax profit, you can easily see that if
our total profitability is impaired as a result of free entry we will have
to look long and hard as to whether we can continue these services,
whether they be the 21-percent which does not meet variable cost or the
55 percent which does not earn a pretax profit. I think there is a real
danger that in a situation of adversity, which I believe free entry
w^ould bring on that the odds are that these services would be sub-
stantially curtailed.
Senator Kennedy. Are those 21 percent of communities or
Mr, de Voursney. Twenty-one percent of the segments over which
we fly, a segment being defined as Flint, Michigan to Chicago.
Senator Kennedy. What percent of those
Mr. DE Voursney. Can I amplify my comment ?
Senator Kennedy. Sure,
Mr, DE Voursney. I think it is wrong to talk in terms of loss cities.
We do not lose money on the city. We lose money flying in-route service
between cities. You can lose money flying between New York and
Boston, and those, of course, are two very large traffic generating
points.
Senator Kennedy. Well, that brings me closer to my point. Of those
communities, what percent of them have any other air service?
Mr. DE Vox RSNEY. When you get down to these marginal segments,
the alternative services are generally a good deal less and in some cases
nonexistent. Some of these are monopoly points. Very few are served
by more than two carriers. Here are some examples: Denver-Grand
Junction, Detroit-Baltimore, Fort Wayne-Xew York, Omaha-Des
Moines, Baltimore-Buffalo, Jacksonville-Atlanta, Memphis-Char-
lotte, and so on. There is a long list.
Senator Kennedy. Would you abandon those if you could ?
Mr. DE Voursney, No, we have made no effort nor do we plan to
abandon those, I think, however, we might be forced out in a situation
where our profits on other routes were insufficient to pay the deficit of
servicing these segments.
Senator Kennedy. Can you give us an idea of what additional costs
consumers are paying in order to keep these smaller segments ? Every
time I fly, then, from Boston to Washington am I paying for somebody
to go from Jacksonville to Atlanta ?
Mr. DE Voursney. I think our accounting system would permit us
to make that calculation, yes. Well, obviously we can take the amount
which these cities are below a pretax profit and spread that over the
rest of the system. That might give an approximate number which
would give you what you want.
One thing I would like to add on this question of cross-subsidy, you
know, airline passengere move around the country rather generally
and a man wdio is subsidized on one segment may well be helping pay
558
for his own subsidy. We are customers of a system, not tied to a single
route, either cross-subsidized or not.
Senator Kennedy. I may fly from Boston to Washington 20 or 30
times a year, but then wlien I fly from Boston to Binghampton I will
get a little back?
Mr. DE VouRSNEY. Yes, sir.
Senator Kennedy. Why do you not go ahead with your testimony.
Mr. DE VouRSNEY. Ycs, sir. For almost 50 years my company has
grown in partnership with Government, and for about 40 years of that
time under regulation of the CAB. The U.S. airline industry has be-
come an acknowledged world leader in safety, in service, in technol-
ogy, and in efficiency, and I might say in fares below those charged
in other parts of the world.
We have improvements that can and should be made. In reviewing
the testimony in this proceeding and in earlier writings the critics of
our regulatory system generally do not allege that economic regula-
tion of the airlines has produced inadequate or inefficient air trans-
portation; rather, they claim it would be even better were their vari-
ous proposals adopted.
I believe that the task of evaluating how much better relief we could
have under deregulation is a formidable one. There are many uncer-
tainties. There is a reasonable case that hasty judgments or actions to
discard what we know have collated to deterioration rather than im-
provement and the impact of that deterioration, both on those whose
livelihood depends on the health of the system and upon the Nation's
economy could be very great. That is why we welcome a thorough
examination of these issues to carefully weigh the issues to carefully
weigh the values of what we now liave against the benefits of indi-
cated change.
The opponents of regulation have testified before you. Virtually all
have called for higher industry load factors. They decry scheduling
as an uneconomic form of nonprice competition. Some assert that the
CAB's 55-percent load factor standard is too low and that low-load
factors promulgate fares which are excessive. Mr. Peck made the asser-
tion that flying planes half-empty is not good economics, and I could
not agree more, particularly since it produces disaster at the bottom
line.
RESULTS OF FREE ENTRY
What does concern me, though, is that in their next breath most of
these gentlemen urge greater freedom of entry, a step by which load
factors somehow would be forced upwards as new carriers enter tlie
business with more planes and more schedules or as existing carriers
move into markets previously closed to them. This logic completely
escapes me. If any development is guaranteed to drive down load fac-
tors and drive up related costs it is the invasion of the market by a
group of new entrants using both price and prime time service fre-
quency as competitive weapons in a fight for market share.
PROFITS AND LOSSES OF BIG FOUR AIRLINES AIRLINE ECONOMICS
I would like to introduce into the record a few numbers. Recently
I compiled the four largest carrier's profits for the last 10 years. I
found some interesting things. These are based on the reported results.
559
In the aggregate, over the years for the last 10 years, himped to-
gether, TWA's domestic system has lost money, a pretax loss. In the
last 8 years, as an aggregate, Eastern Airlines has lost money, a pretax
loss. In the last 6 years, American Airlines has suffered a pretax
loss. Fortunately, we — United — have lost money in only one. I think
the pretax margins are interesting. TWA's domestic system is six-
tenths of a cent deficit. Eastern, a profit on the plus side in the 10-year
history, amounted to a profit of four-tenths of 1 cent out of every
dollar ; American, 2.2 cents in 10 years ; and we have had a somewhat
better margin, 4.8 cents.
To paraphrase a speech Charles Baker made on ICC, if the regu-
latory agencies are protective of those they are designed to regulate,
I would hate to see the plight of the regulated if tlie agencies ever
become hostile.
An airline has three primary ways to reduce costs. The first is higher
load factors, the second is more seats per airplane, and the third more
hours per plane per day. These factors have considerable leverage, but
the cost benefits of each would be much harder to obtain, in my judge-
ment, under a condition of deregulation.
In looking at service competition we should remember the highly
incremental nature of airline costs. About 90 percent of the fare from
each passenger above the break-even level goes directly to pretax profit.
This helps explain the service competition which it promotes and the
tactics of airline marketers. It still will exist no matter if deregulation
will push fares down, the attraction of getting that marginal passenger
will continue.
Mr. AVexler said something about the industry being capital inten-
sive, and I am a good friend of his, and I respect his knowledge of the
industry. This industry is not capital intensive, it is labor intensive.
About 4-1 percent of our expense dollar goes for wages and benefits.
You can get into this business with a little side money and some leasing,
and people have done it that way.
Senator Kennedy. How does it compare, for my information, to say
other industries : for example, automotive, steel ?
Mr. DE VouRSNEY. There I think you do have a capital problem.
Senator Kennedy. What is the labor cost, as a percent of cost of
production.
Mr. DE Vouesney. In those industries ?
Senator Kennedy. I can find out, but
Mr. DE Voursney. I do not have the numbers. I will be happy to
submit them.
Senator Kennedy. I was just wondering how the airlines compared
to other industries.
Mr. DE Voursney. Freedom of entry is possible with steel and rail-
roads, but I have not seen anybod}- starting up new steel companies or
railroads. One other point, Mr. Colodny talked about breaking up
United and TWA, et cetera. It is quite a relief from being accused of
being inflexible, unmanageable and inefficient. Thank you.
Senator Kennedy. Of the communities that you serve now, if there
wei-e freer entry into the market do you think those communities would
be denied any air transportation ?
Mr. DE Voursney. I would suspect that would depend on if others
feel they could provide service with a profit. We have about 10 cities
560
which we have made applications to delete at one time or another. I
would suspect we would go back and look at them and possibly take
action on our own.
Senator Kennedy. Does this include the 145 communities that you
mentioned ?
Mr. DE VoTjRSNEY. I beg your pardon.
Senator Kennedy. I think you mentioned in the earlier part of your
testimony
Mr. DE Voursney. Those were segments, some of which might have
served the cities in question. These were 10 cities per se.
Senator Kennedy. Would those segments be served, do you think,
with open competition, or would they not be served? Wliat is your
judgment? You have given a lot of thought to this whole problem.
Mr. DE Voursney. Some would be and others might not be. We have
some classics which I doubt would be attractive to any one, in fact,
even at very high prices.
Senator Kennedy. What is your reaction to the fact that the CAB
has not had hearings on various routes? Do you have any kind of a
response to points that have been made, that this is violating at least
the spirit of the Aviation Act or the Administrative Procedure Act ?
Mr. DE Voursney. I think preferably that when policy matters of
that kind are established, just as for the new route study proposals,
that there be public hearings, on the public interest in imposing mora-
toriums, imposing new rules such as are imposed in that study, I
think there should be a broad public inquiry and in a public forum.
Senator Kennedy. So they should have an opportunity for a hear-
ing?
Mr. DE Voursney. That is right.
Senator Kennedy. You do not believe that if the Board had a more
open-route entry policy that the antitrust laws would be sufficient in
terms of predatory price competition to maintain some stability in the
market ?
Mr. DE Voursney. Senator, I believe we would be substituting a sys-
tem by litigation. "WHien I think of the restraints that would impose. I
do not see how you can run an airline system in this country and run it
effectively.
Senator Kennedy, Thank you very much.
[The prepared statement of Andrew de Voui-sney is printed at the
end of the oral testimony of the airline panel, pp. 629-35.]
Senator Kennedy. We will hear from Mr. Stuart G. Tipton, senior
vice president of Pan American Airways, and Mr. Stanley Gewirtz,
Pan Am's special adviser for public policy.
Mr. Tipton has worked for the CAB. He has been general counsel,
president, and chairman of the board of the Air Transport Associa-
tion.
Mr. Gewirtz is a lawyer who for the past 30 years has served with
many governmental agencies including the CAB, the Senate Armed
Services Committee, the National Aeronautics and Space Administra-
tion, and the Department of Transportation.
INIr. Tipton and Mr. Gewirtz have supplied a very detailed state-
ment that points out the differences between domestic regulation and
regulation of international carriers like Pan Am. The statement argues
561
that repilation of entry and routes in the international field is radi-
cally different than in the domestic field, and that free and liberalized
entry cannot be applied as easily in the international area. I think
your points are good ones. Could we go right to questions, or are there
several points in your statement you wish to emphasize first?
Mr. Tipton. I will proceed briefly, Mr. Chairman, and cover a num-
ber of points, and then, of course, be available for any questions.
First, let me be sure that our statement is in the record. I do not know
whether it is or not.
Senator Kennedy. Yes ; it is. They will all be printed in the record,
and any supplemental information that we w^ant to provide as a result
of these questions will be made a part of the record, too.
DIFFERENOES BETWEEN DOMESTIC AND INTERNATIONAL AIRLINE
INDUSTRIES
Mr. TiPTON. Most of our discussion up to this point has been re-
lated to purely domestic problems that have bearing upon the crea-
tion and operation of our domestic system. We will discuss the prob-
lem in the international field as it differs from the domestic. xVs such, it
has bearing not only on the certification process of the Civil Aeronau-
tics Board, but also on the issues that have been presented to the sub-
committee concerning freedom of entry and exit, and the alterations in
the regulations of rates.
Looking at the international field, it seems quite clear that it presents
a wholly different set of problems as it relates to the determination of
policy between free entry and regulated competition as we have it now.
I would say flatly that we really cannot have freedom of entry in the
international field, and we really cannot have an elimination of rate
regulation in the international field. The United States and its carriers
must deal not only with a single entity, but with every foreign govem-
nient into which the United States has a carrier operating. These
differences are marked and fundamental. Let me run through them
rather quickly.
First, as to entry in the international field, the entry is really largely
controlled by foreign governments, not by the U.S. Governnient. The
United States can determine it would like to have a carrier go some
place and serve a particular market, but in order to have that actually
take place, the LTnited States has to get the consent of the foreign
government and get it through bilateral negotiations. So whatever
might be said as to freedom here, there really is not that freedom.
As to rates, virtually the same thing can be said. A carrier cannot
cliarge any rate to which a destination country objects. That creates
a problem on a multilateral basis. The lATA conferences of carriers
has been utilized for that purpose. As to capacity, the main area in
our domestic air transport system where you do have a large measure
of freedom ; in the international field, you have veiy little freedom. It
is regulated by international agreements.
The various governments carry those capacity agreements into effect,
and thus a carrier in that field certainly does not have complete control
over the capacity he operates on his routes.
Market environment is wholly different. In the domestic system,
carriers are unsubsidized for the most part. In the international field.
146 O - 76 - pt. 1 - 37
562
competition is seriously distorted by the application of governmental
policies to the operation of subsidized foreign-flag carriers, and the
application of their policies with respect to balance of payments and
tourism and the like.
As to the degree of competition that has to be operated over a partic-
ular route or within a particular area, there tlie system is wholly
diiferent than the one we have in the domestic field. The level of com-
petition relates largely to the workings of bilateral agreements and
international negotiations, rather than on a determination of the
economics of competition, or no competition.
A quick example. We have three domestic carriers opejating between
New York and Miami, and 3 million passengers move over there. There
are 10 carriers from New York to London and it is a million-passenger
market. So that it reflects no determination on an economic basis as to
the amount of competition you should have.
The level of competitive opportunity is an important distinction as
well. All carriers in the United States operate with an equal level of
competitive opportimity. In the international field any carrier is sub-
ject to the determinations of a foreign government, which may well
produce discriminations about which the Congress, this last session
legislated, the level of user charges. In this country we have levels in
airports and airways that are fixed first by Congress in the case of air-
ports by negotiation — arm's length negotiations between the carriers
and the airports. In the international field the carriers are at the mercy
of whatever the Government may choose to charge them for the use
of airports and airways. That, also, our Congress dealt with in the last
session. Cost of capital is a major difference. ^lany foreign flag carriers
are financed by their own governments.
The political and economic environment in which we operate is
wholly different. Here sometimes we think the United States is a little
unstable, but we have to agree that it is a stable environment in which
to operate. Operating in foreign governments, anything is likely to
happen, and many times does.
So I want to emphasize here these distinctions as they relate to the
certification process the Board has carried out. I have had the feeling
for a long time that the Board has not given enough weight to these
facts, to these differences and the environment that an international
carrier meets as contrasted with a domestic one. As far as the applica-
tion of the theories of the free market, I do think we have to recognize
in the international field you just cannot have it.
WHY PAN AM DOES NOT HA^^E DOMESTIC AUTHORITY
Senator Kennedy. I think that is a valid point and one which is
made very strenuously in your statement, with a great deal of validity.
I have just a couple of areas that I Avould like to talk with you about,
and also Mr. Gewirtz, and that is why you have not applied for more
domestic routes.
Mr. Tipton. I would be glad to have Stan answer that question.
Mr. Gewirtz. Thank you.
We have in the past applied for domestic routes. In fact, we have
had an application pending now for some years in which we have had
an affirmative recommendation from the administrative law judge.
563
It involves the certification of Pan Am between Miami and Los An-
geles. That administrative law judge's decision was handed down in
the summer of 1973, and further action deferred, pending a request
by the Board for an environmental protection study to be submitted
to the Board. But oral argument has not yet been scheduled even
though the environmental study has been completed.
In terms of other domestic routes, over the years, Pan Am has
applied for them. I guess about 25 years ago. at the tijne of the do-
mestic route case, it was decided there would be no mix as between
the international operations of a carrier and its domestic. You know
that this has been honored in the breach to the great fiscal instability
of Pan American.
Senator Kennedy. You mean you had that affirmative decision 2
years ago ?
Mr. (tewtrtz. The administrative law judge decided the case favor-
ably as to Pan American.
Senator Kennedy. I see. You still do not have a hearing date ?
Mr. Gewirtz. Still do not have an oral argument date set, no, sir.
Senator Kennedy. Do you think if you had been able to get that
route and perliaps some others, that your financial plight would have
been somewhat relieved ?
Mr. Gewirtz. It would certainly have been helped. The administra-
tive law judge's recommendation supported our contention that we
would enjoy about a $15 million annual profit on that route.
Senator Kennedy. Did you apply for any other routes, or just that
one?
Mr. Gewirtz. We have applied for other routes in connection with
our international operations. We have asked for fill-up rights. We op-
erate between many United States points, but most of those have long-
haul restrictions — for instance, we can go from Xew York to San
Francisco, and we intend in fact to put that service back on again,
but in order to fly between New York and San Francisco, you liave
to be destined for a point west of Honolulu. A San Francisco passenger
can be flown to New York, and stopover, but he can only be carried if
he is destined for a point east of New York, and that is London.
Senator Kennedy. You mean the planes fly out there in any event,
but you can only fill it if people are going west of Honolulu ?
^Ir. Gewirtz. Yes; west of Ho^^ohilu. We have quite a number of
routes where we have asked for fill-up rights which would help tre-
mendously. There are occasions on which even the capacity of domestic
carriers on some of these routes is taxed and where we would enjoy
considerable help were we to get fill-up rights.
Senator Kennedy. The plane is on its way out there anyway.
Mr. Gewirtz. We burn fuel and pay at least 13 cents more a gallon,
on a system basis, than what is paid iDy the domestic lines. If we had
enjoyed the domestic airline fuel price this past year, I think we would
have broken even ratlier than lost about $80 million.
Senator Kennedy. Would you apply for other domestic routes if
you could get a hearing?
Mr. Gewirtz. At this point, I doubt it. With Miami-Los Angeles
fill-up rights, and some additional LT.S. gateways indigenous to our
operation, we would be well on our way to viability with some of the
cost controls we have developed.
564
IRANIAN LOAN TO PAN AM
Senator Kennedy. There is another area which there is public inter-
est in, and that is the loan that is bein^ arranged with the Iranian
Government. Will this give the Iranian Government control, or, some
say in Pan American's management ?
Mr. Tipton. No; it will not give the Iranians control.
Senator Kennedy. Will it give them a voice in the management?
Mr. Tipton. They will have, when this stock is issued, 13-percent of
the common stock of Pan American. They will have one member on a
17-member board of directors. Now, there is a very large amount of
stock outstanding other than theirs and 16 other directors.
Senator Kennedy. What does the Board consider to be presumptive
of control, 10 percent ?
Mr. Tipton. Yes, 10 percent.
Senator Kennedy. They will get 13 percent ?
Mr. Tipton. Yes. The statute provides that for the purpose of apply-
ing to the Board for approval of an acquisition of control that it is
presumed that 10 percent equity ownership constitutes control. That,
of course, is rebuttable. We have proposed to submit the agreement
when and if it is negotiated to the Civil Aeronautics Board for ap-
proval, and we expect to convince them that in this instance that
amount of stock does not constitute control.
Senator Kennedy. Will that agreement be made public ?
Mr. Tipton. Oh, yes, it will be made public.
Senator Kennedy. In its entirety ?
Mr. Tipton. Yes, it will be made public in its entirety.
Senator Kennedy. I read over the weekend that the administration
has approved it in principle. Is that correct ?
Mr. Tipton. That is correct. The administration approved the agree-
ment in principle, and thus freed us to continue our negotiations with
the Government of Iran.
Senator Kennedy. Let me ask you, does it raise any questions in
your mind when a major oil producing country invests substantially in
an airline that may be competition with other airlines ? Does this raise
any problems in terms of any of your competitors ?
Mr. Tipton. It does not, and the reason it does not is because not
only our competitors but ourselves are so closely supervised by the
Government, almost everything we do must have Government ap-
proval of some sort, public approval, that it would be very difficult to
see how damage could be done to our competitors as a result of this
Iranian loan.
Senator Kennedy. OK. Thank you very much. I think that is fine,
Tery helpful. There are probably other additional questions which I
would like to get your reaction and response to that came up during
the course of the morning, so we would like to get back to you. I would
like to thank you for all the testimony. It was very, very helpful and
very responsive to our areas of interest, and very complete. Your re-
sponses have been, I think, very informative in making the record. I
want to thank you very much.
565
[The prepared statement of Mr. Tipton follows, pp. 637-46, below.]
Prepared Statement of William A. Hardenstine
Mr. Chairman, I greatly appreciate the opportunity to present to you the views
of World Airways concerning your inquiry into CAB practices and procedures.
On December 20, 1974, Mr. Edward J. Daly, president and chairman of the board
of World Airways, submitted written comments to specific questions which had
previously been presented to us. Mr. Daly regrets at being unable to be present
today but has asked me to supplement those views with specific comments con-
cerning our experience with respect to two other aspects of CAB regulation : First
is the handling of applications for new service, and second is the handling of
charter regulations.
I. applications for new service
We at World Airways fervently believe in the importance of competition in
the development of the best possible air transportation system. Supplemental
carriers like World, and our earlier counterparts which were known as irregular
or nonscheduled carries, have, since World War II, performed a significant role
as innovators within this industry. Without overstating the case, I believe it is
fair to say we have had a major part in the development of: (1) low-cost coach
service, (li) all-cargo service, (3) charter operations, and (4) commercial aug-
mentation airlift program for the Department of Defense. While some of these
innovations go back .some years, it is our opinion that there are still important
opportunities for improvement in air service and that these are most likely to
occur under the stimulus of regulated competition.
Early in 19G7 World made a comprehensive study of the need for just such
improvements in the major transcontinental markets and concluded that although
the existing jet coach fare was then $145.10, it could conduct profitable operations
with Boeing 747 equipment at a transcontinental one-way fare of $75. Its applica-
tion for authority to conduct such as operation was filed on April 26, 19C7 and
designated as docket 18468. Subsequently, a motion for expedited action was
filed which contained a detailed economic analysis of our plan, a summary of
which I have attached to my testimony as appendix A. There was never any
Board action on this motion and, in fact, the only Board action ever taken with
respect to the World proposal was in order 73-11-103 on November 21, 1973, when
World's proposal in docket 18468 was dismissed as stale. This was 6^/^ years
after it had been filed !
Our proposal obviously involved intense competitive problems and we were
aware that other facets of the "public convenience and necessity" would have to
be balanced against what appeared to us to be .significant advantages to the con-
sumer and a significant economic opportunity for World. That critical judgment
was taken, however, in the decision of the Board not to consider the application
at all, contrary, in our view, to the statutory requirements for expeditious hear-
ings.
We appreciate that not all applications filed with the CAB can be set down for
hearing ; the agency simply does not have the resources to handle such a work-
load. But this was a proposal of major consequence submitted by a carrier which
both: 1) was acknowledged to be one of the most efficient in the airline in-
dustry, and 2) posses.sed a substantial net worth — in other words we clearly had
the ability to perform. World was, in the-terms of the statute, unquestionably
"fit. willing and able."
We were the victims of a "route moratorium" three years before it was evident
to others. At the very least we were entitled to know why the Board was unwill-
ing to consider our very serious proposal.
II. excessive redtape in charter regulations
Filing fees. — Pursuant to part 389 of the Board's special regulations, the Board
imposes fees for special services, the filing of documents, and the issuance of li-
censes. When grouped by type of activity, these fees provide an excellent index
of activity at the CAB ; for a recent 12-month period this information is shown
in the following tabulation :
566
CAB FILING FEES FOR TWELVE MONTHS ENDED JUNE 30, 1974
Subject matter
Percent of
Fees paid
total fees
$194, 500
39
118,415
24
57, 500
12
25, 500
23, 375
23, 080
11,300
41, 495
Tariff matters
Charter matters..-
Agreements _ _-_ _
Scheduled route applications _
Air taxi registrations.
Mergers and acquisitions
Air freight forwarder applications
Miscellaneous
Total 495,165
For the same 12 months, the charter revenues of the U.S. carriers — scheduled
and supplemental together^ — represented only 3 percent of total U.S. carrier
revenues. I suggest to you that this discrepancy represents over-regulation of
the charter segment of the industry — perhaps by a factor of almost ten. The level
of charter fees is a short-hand way of saying that the current charter regula-
tions at the CAB are unbelievably complicated, time-consuming and expensive.
No one seems to ask the question as to why it is necessary.
Paperwork. — It is diflBcult to convey the burden which the Board's regulations
impose with respect to some of our charter operations, but the following tabula-
tion is some indication of the volume of the filing requirements :
Typical Travel Group Charter Application for a Single Flight
Title of Document Number of pages
Transmittal letter 1
TGC option agreement 2
TGC agreement 7
Rider to surety bond 2
Contract between organizer and participants 15
Terms and conditions for TGC participants 6
TGC pleasure-break application form 1
TGC passenger name list 28
Total 62
Even the above list tends to understate the problem. The passenger name list,
for example, must: 1) have the passengers numbered, 2) alphabetized, 3) identi-
fied as to whether they are on the main or standby list, 4) identified as to
whether they are departing or returning passengers, 5) we must show the
address and telephone number for each person, and 6) we must also provide
verification of identity through some document such as passport or social security
card, which in turn must be specified. I have attached to my testimony as
appendix B a copy of the filing instructions as they appear in the Board's
regulations to add some of the flavor of what we at World regard as over-
regulation.
Another major burden of the regulation is its lack of flexibility. If the above
flight were to be modified in certain minor respects : if it were to start a day
earlier or return a day earlier; if it were to serve one additional city or one
fewer cities ; if a few people were to be added to the passenger name list ; then
instead of a simple amendment to the previous filing, an earlier new application
would have to be presented. If these changes occurred suflSciently in advance of
the planned departure the only problem might be the burden of the additional
paperwork. But if these changes occurred within 90 days of the flight's departure,
perhaps the entire flight would have to be cancelled because the advanced filing re-
quirements of the regulation could not be satisfied.
ni. RECOMMENDATIONS
Many of our procedural problems have their origin in the substantive fabric
of the Federal Aviation Act and its implementing regulation. As this subcommit-
tee knows, these are, in part, now under review by the Aviation Subcommittee
567
of the Senate Commerce Committee, which has been considering S. 421. There are
other, perhaps less ambitious, steps which can be taken to improve the situation,
and on belialf of World Airways I would like to suggest one : the independence
of the Office of Consumer Affairs at the CAB must be guaranteed by Congress,
and it must be provided a staff adequate to its responsibilities.
This office was established only last October, as a kind of administrative om-
budsman, and perhaps as a token acknowledgment that the consumer should be
represented. But if it is to be anything more, for example, than a clearinghouse
for complaints about lost baggage, it must be strengthened. We believe it is es-
sential for the Congress to spell out what it expects this office to do, and then to
provide it with both the authority and the resources to do its job.
Had such an office existed in 1967, it might have pressed for a Board decision
as to why a proposal to cut the transcontinental fare by almost 50 percent
should not at least be examined through an evidentiary hearing. And today an
adequately staffed Office of Consumer Affairs might make a cost/benefit analysis
of the charter regulations, and press the Board to explain why the mountain of
paperwork now required is in the public interest.
Biographical Notes on William A. Hardenstine
Mr. Hardenstine w-as born on May 21, 1922 in Phillipsburg, New Jersey. He
attended New^ York University and Dartmouth College and received a B.S.
degree in transportation and traffic from New York University. He served in
the U.S. Navy from 1942 to 1949 and again from 1951 to 1957 and held the rank
of Lieutenant Commander. He was awarded seven battle stars while in the Asian-
Pacific theater. His past employment in the transportation and aviation industry
included the positions of regional sales manager, assistant vice president of opera-
tions, and vice president of sales of Overseas National Airways, Inc. He joined
AVorld Airway.? in 1963 as vice president of sales and was promoted to senior
vice president of sales in 1970. He was elected director of World Airways, Inc. and
Worldameriea Investors Corp. in 1971. He is a member of : Rotary International,
American Society of Travel Agents. Pacific Area Travel Association, Discover
America Travel Org., Smithsonian Assoc, National Indus. Recreation Assoc,
Travel Council, Alumni Assoc, of Dartmouth and New York Universities.
Appendix A
SUMMARY OF THE PROPOSAL OF WORLD AIRWAYS, INC. IN CAB DOCKET 18468 FOR A
TRANSCONTINENTAL THRIFT SERVICE
The major California-east coast markets are not being adequately developed.
Although there are seven metropolitan areas in the State of California of ap-
proximately 1 million persons or more,^ nonstop transcontinental .service has
been offered consistently at only two airports : Los Angeles International and
San Francisco International. Both are highly congested. Three other airports
in California (excluding San Diego) serve populations of several million each
and are now capable of handling tran.scQiitinental nonstop operations. Two of
these airports— Ontario and Long Beach — have no such transcontinental service.
The third. Oakland, has token service. All three points — Ontario, Long Beach,
and Oakland — have independently requested expedited action on World's
application.^
Development of these transcontinental markets has been inhibited by exces-
sive fare levels as well as by neglect of other airports. The lowest promotional
fare today is considerably higher than the lowest fare 12 years ago. Basic coach
fares have never been higher, and have not fluctuated in 5 years.
The existing transcontinental carriers have little incentive to enr'age in genuine
fare competition or to spread their operations to other airports. Experience
^ Spp nn^enriix i?. .An piehth are^. San .Tnsp. has a nopnlatlnn in pxeess of 900.000.
= The citv of Oakland filed a Retition dated Sept 8. 1967. In late Sentember, petitions
were filed by tlie citv of Long Beach and Long Beach Chamber of Commerce and the city
o'' On^^ario, Ontario Chamber of Commerce and Friends of Ontario International Airport
Association.
568
shows that service improvements under these circumstances will result only
from the entry of a new aggressive carrier.
World is that carrier. It will operate nonstop service to New York and Balti-
more/Washington from the Long Beach, Oakland, and Ontario airports. It will
offer a single-class service with more spacious seating than available to the
coach passenger today. And it will offer a fare of $79 with B-707 equipment.
With the delivery of World's B-747's the fare will be reduced to $75. These fares
will accomplish an average reduction of approximately 50 percent in the cost to
the public for basic transcontinental coach service. Unlike current promotional
tariffs, the proposed fares will be available to everyone, everyday. Combined
with the service at new airports and with other promotional activities envisioned
by World, the low fares will produce a radical increase in the use of trans-
continental air service, particularly for pleasure travel.
WORLD AIRWAYS. INC
570
EGTIi':,\TZD 0?E?/Tira RE-ULTS
1st Y!\\R OrZR-TION
Traffic Statistics
Passensors 5^7,826
Revenue Pacsen^or Mil'DS (OOO) 1,3^+8,092
Passenger Ton Miles (OOO) l'+0,876
Revenues
Passencers, Gross $ij3,273,25^
Less 6^j Dilution 2,396,695
Passenger Revenue . $40,681,5^9
Cargo and lii.il 2,610,1+00
Other Revenue 438,g6l
Total Revenues $^3,730,220
Ol^erstinr Smensps
Aircraft Operrting (E:.:c1. Depr.) $l3,i+15,460 l/
F.E. Depreciation 2,990^030
Sub-Total: Direct Costs $21,405 ,460
General and Aduinistrative $13,938,630
Contingency 1,600,000
Depreciation of Ground Equipment 294,750
Arcorti-ation of Prcoperating E::pense 2/ 227,600
Sub-Total: Indirect Costs i|ii6,Q6o,980
Total Operating E>:pense $37>466,440
Estiiiated Operating Profit $ 0,263,780
1/ Flying Operations (ll,ll6,l40) plus total iraintenance including
burden (7,299,320).
2/ Five-year amortization: Page 6 of this appondix, "E£tin-.ated
Investment" .
Source: Aopendix 11, Page 4 of 6, CAB Docket 1846J
571
Appendix B
instructions for travel group charter application
Introduction
Form 372a ^ is to be used in making the various filings of the travel group
charter passenger name list (TGCPNL). The list is first required to be filed
by the travel group charter organizer (CO) no earlier than 90 days and no later
than 60 days before the scliedu!ed date of departure, pursuant to sections 3<a.22
(b) and (d) (first filing) ; and a photostatic or similarly reproduced copy of
this form, stamped by the Board, is to be used as the enplanement list required
to be prepared by the direct air carrier (DAC), and filed after the departure or
return fiight is performed, pursuant to section 372a.50(a). The information
required by all items on form 372a shall be typewritten ; however, names of
assignees entered in item 11 subsequent to the first filing, and items 12 (pas-
senger status), 15 (enplanement identification) and 18 (prepared by), may be
handwritten in pen.
Procedures for First Filing
The CO will prepare form 372a according to the instructions set forth and
shall, in its first filing, file an original and two photostatic or similarly repro-
duced copies (not carbons) accompanied by a self -addressed and postage-prepaid
return envelope, with the Board's Supplementary Services Division, Bureau of
Operating Rights (BOR). BOR will stamp the original and two copies to validate
their receipt, and return the two stamped copies to the CO. One stamped copy
will be for use by the DAC who is to perform the TGC departure flight and the
other stamped copy will be for use by the DAC who is to perform the TGC return
flight.
Preparation of Form 372a
Each page provides for twenty (20) TGC names. Items 1, 2, and 6 through
15 will be completed on each page on which original participants (OP's) are
listed, and items 16 through 18 will be prepared only on the first page, by the
CO or DAC, as the case may be.
Note: Since only verified and stamped copies of form 372a may be used
for entering the names and identification of such assignees as may be sub-
stituted for original participants subsequent to the first filing, the CO shall
submit in his first filing a sufl3cient quantity of pages with items 1, 2 and
6 through 10 completed to provide space for making entries for the maximum
permissible number of assignees, i.e., 15 percent of original participants.
Item 1, page of. — The left blank is to contain a sequential number beginning
with "1" representing the page number in the set of pages submitted for the
TGCPNL. The right blank is to contain the total number of pages in the set for
the TGCPNL.
Item 2, TGC Number.— Enter the number assigned by BOR for the TGC pro-
gram, e.g., 74-37 ; the CO should further identify the passenger lists filed within
the program by assigning another number for each passenger list filed, such
numbers to be in sequence and begin with "1." Thus, the first passenger list filed
in the program 74-37 would be 74-37-1, and the fifth list filed would be 74-37-5.
Item 3, Date of First Filing. — Leave blank.
Item 4, Date Departure List Filed. — Leave blank.
Item 5, Date Return List Filed. — Leave blank.
Item 6, Name of Charter Organizer. — Enter the name of the charter organizer,
exactly as shown on the TGC option filed with the Board.
Item 7, Name Departure Trip Direct Air Carrier. — Enter the name of the DAC
who will perform the departure journey for the TGC, exactly as shown on the
TGC option filed with the Board.
Item 8, Name Returning Trip Direct Air Carrier. — Enter the name of the DAC
who will perform the return journey for the TGC, exactly as shown on the TGC
option filed with the Board. (Although this will generally be the same as shown
in item 7, ditto marks are not acceptable. The item must be completed.)
Item 9, Departure Journey. — Enter details about the departure journey on this
line. Show the origin and destination as city, state (or otherwise), and country.
Copies are obtainable from the Board's Publications Services Section.
572
Airport names are acceptable only as an addition to the city, state, and country
information. The date should appear in the form YYMMDD where YY represents
the last two digits of the current calendar year, MM represents the month in a
scale where 01 is January and 12 is December, and DD is the day of the month
from 01 to 31. For example, December 10, 1974, would be shown as 741210. The
ADP coding boxes to the left of item 9 are intended for the 3-letter codes of
the origin and destination, i.e., Washington, D.C. USA (National Airport) to
Baltimore, Md. USA should be shown as DCABAL. Enter these if known, other-
wise, leave blank.
Item 10, Return Journey. — Follow the same directions as for item 9 above in
describing the return journey.
Item 11, Passenger Sequential Number. — Two or more pages will be required
to list the names of original participants and any tour conductors or a.ssignees.
Each original participant is to receive a sequential number beginning with "1",
so that the last sequential number shown on TGCPNL at the first filing should
equal the number of original participants. At enplanement, the DAC shall enter
in item 11 the name of each assignee.*
Item 12, Passenger Status. — These four (4) columns are to be marked with an
"x" as appropriate to .show that the pa.ssenger named on this line is an OP, an
assignee (ASNE), departing enplaned passenger (DEP), or returning enplaned
passenger (RET). The TGCPNL at first filing will contain "x's" only in the (OP)
column. The total number of "x's" in the OP column for all pages must be equal
to at least 90 percent of the number of seats contracted for. The DAC performing
the departure flight will mark an "x" in the departure column and the DAC
performing the return flight will mark an "x" in the return column. Each DAC
will complete items 12 through 15 for each assignee.
Item 13, Name. — Enter the prospective passenger's last name first, followed by a
comma, the first name or initials and the middle initial, if any (for example.
Doe, John A.). Check block whether male or female. Enter the name on one line
only, if necessary, by dropping any element other than the fully spelled out last
name. Enter all prospective passengers' names in alphabetical order, according to
the last name and in the case of like last names, according to initials of first
names.
Item 14, Address and Telephone No. — Enter the address in enough detail to
allow contact by mail, and telephone number (including area code, if any).
Item 15, Enplanement Identification. — The DAC performing the departure or
return flight will verify each enplaning passenger's identity, using as the docu-
mentary source of such verification the passenger's passport, or, if he has no
passport, using his travel identity document. Only if no passport or travel identity
document is available should any other document be used, preferably a Social
Security card. When a passport or social security card is used for identification,
enter only the number in the appropriate space. Where a travel identity document
or document other than a passport or social security card is used, then, in addi-
tion to entering the number in the appropriate space, a brief description of such
document should also be noted.
Item 16, Column Totals. — Boxes shown are to be used for recording the total
"x's" .shown on all the pages of this TGCPNL in the particular column. These
entries must appear only on page 1 of the TGCPNL. The box under the column
head OP (titled A-OP) should contain the total number of original participants
and the box under the column headed ASNE (titled B-ASNE) should contain the
total number of assignees. The box under the column headed DEP (titled C-
DEP) should contain the total number of departure flight passengers and the box
under the column headed RET (titled D-RET) .should contain the total number
of return flight passengers. The A-OP flgure will be shown on the First Filing.
The B-ASNE, C-DEP, and D-RET figures will be .shown on the filings made by
the departing DAC and returning DAC, respectively.
-Where the number of sents contracted for includes one or more seat.s for tour con-
ductors. p\irsnant to section .^72n. 14(d). then: 1) following: the last sennentinl number for
original participants there shall be entered, in Item l.S. either the name of ench conductor,
if known at the time of first filina:, or the letters "TC". and 2) at the time of enplanement
the DAC shall complete the information reauired by item 15. as to tour condu'-tors named
in item 13. nnd if item l.S contains only the initials "TC", then the DAC shall also enter
the tour conductor's name in item 1.3.
.«;ource: Part .372a of Special Regulations of the Civil Aeronautics Board [Subcommittee
note : as of May 1975].
573
Item 17a. — This computation will be completed by the CO. The calculation
requires a division of the total number of passengers listed in the A-OP column
by the total number of seats contracted for. The total number of A-OP column
must equal no less than 90 percent of the seats contracted for. Express the result
to the nearest tenth of a percent.
Item 17b. — This computation will be completed by the departure DAC. The
calculation requires a division of the number of as.-^ignees enplaned on the de-
parture journey by the total number of original participants. Express the result
to the nearest tenth of a percent.
Item 18, Prepared By. — Enter the signature of the person preparing the form
for the CO, the departing DAC, and the returning DAC, as the case may be.
Prepared Statement of Raymond J. Rasenberger
North Central Airlines has asked me to appear on its behalf at today's hearings.
I would like to begin with a brief description of North Central. Headquartered
in Minneapolis, North Central is one of the eight local-service air carriers cer-
tificated by the CAB. North Central was incorporated in 1944 as Wisconsin Central
Airlines and was initially certificated by the CAB in 1946.^ Today, its route sys-
tem extends from New York to Denver, encompassing some 90 cities in 13 states
and Canada, operated with a fieet of nineteen 100-passenger Douglas DC-9-30
fan jets and thirty-one 48-pas!^enger Convair 580 prop jets, and boarding an
average of more than 12,000 passengers each day. Among North Central's accom-
plishments are ranking as one of the 50 largest U.S. transportation companies,"
first listing by a local service carrier on the New York Stock Exchange, and a
profitable operation for 20 of the last 21 years under the current management.
My firm has served as Washington counsel for North Central, particularly in
matters involving CAB regulation, for approximately 10 years.
The subcommittee staff has asked that we review at these hearings North
Central's experience with the CAB's so-called "route moratorium." I understand
the committee would like to explore our ideas, as well as those of other airlines,
about possible changes in procedures now followed by the CAB to determine
whether to hear new applications for route authority.
We will try to be as responsive as possible to this request. We are, of course,
constrained from arguing the merits of our applications in any forum other than
the CAB itself. We will be pleased, however, to summarize for the subcommittee
the facts, all of which are in the public record, relating to North Central's efforts
to have its route applications set down for hearing.
Let me also make clear at the outset that, while North Central has been notably
unsuccessful in getting its route applications heard in recent years, neither North
Central nor I as their counsel want to be associated with across-the-board attacks
on the regulatory system in general or the CAB in particular. In our view, the
Civil Aeronautics Act of 1938 (now the Federal Aviation Act) is generally an
exemplary piece of legislation — a collection of extraordinarily wise policies and
sound procedures. The proof of this is in part the result we see today — an airline
industry that has come through three decades of incredibly rapid technological
change and growth and now provides the United States with an unparalleled
system of air transportation.
I particularly want to emphasize the .word "system" because too often the
economic interrelationship of the various portions of our air transportation net-
work is forgotten, particularly by those who advocate unregulated entry. Air
service to weak points is supported by routes connecting stronger points. Stronger
points obtain their strength in part from traflSc flows which are generated by
weaker points. North Central as a local service carrier particularly is aware of
this relationship. Unless that interrelationship is fostered under a statutory
scheme .such as we now have, the result will necessarily be the disappearance of
air service at many small communities now receiving it and poorer, less reliable
service at many others.
Of course, the Federal Aviation Act alone has not built the system we have.
It took an agency to make it work. By and large that agency, with the help of a
remarkably competent and independent staff, has done an outstanding job of
particularizing the statutory directives into sound policies. North Central has
1 North Central Case. 7 CAB 639 (1946).
2 Fortune, Double 500 Directory, July 1973.
574
had many disagreements with the Board over particular policies and actions —
and certainly the recent refusal to hear our route applications is a major ex-
ample— but in terms of a longer and broader view we think the Board is entitled
to the thanks of Congress and the public for a job well done.
DEVELOPMENT OF THE HEARING REQUIREMENT UNDER SECTION 401
To understand the current route moratorium, it is useful to review briefly
some of the background of CAB route regulation and the related hearing require-
ment. The domestic airline industry began not as a passenger system but rather
as a system for carriage of mail. Airmail contracts sustained the industry from
the period following World War I through the early 1930's when, with the devel-
opment of new engine and structural technology, it became possible to carry mail
and a substantial number of passenger.s. It was at this point that a domestic pas-
senger route system began to emerge, but airmail contracts still marked the
difference between a profitable and an unprofitable operation and the obtaining
of these contracts was the key to success.
Although the Air Mail Act of 1930 provided for competitive bidding, the Post
Ofl5ce Department encouraged the carriers to work out the details in private,
leading to the notorious "spoils conferences" and an industry that, by 1934, was
dominated by three manufacturing and carrier combines. Through the'' direct
intervention of President Roosevelt and new airmail legislation in 1934 and 1935,
the system was made somewhat more equitable but it still favored the large,
financially strong carriers who could afford to underbid on the airmail contracts.
On the other hand, these carriers were seriously concerned about unregulated
competition by carriers that did not have airmail contracts.
The end result was the Civil Aeronautics Act of 1938, the economic provisions
of which were reenacted virtually intact in the Federal Aviation Act of 1958.
Two sections of that Act bear directly on the proce-ssing of route applications.
The first is the unequivocal requirement in section 401(c) that any application
for a route "shall be set for a public hearing, and the Board shall dispose of
such application as speedily as possible." " Patterned after the hearing require-
ment in the Interstate Commerce Act, this provision was the legislative disavowal
of the "spoils conferences" and was meant to insure that henceforth, all matters
concerning route awards would be decided on the basis of a public record.
With an industry that was still in its infancy, this provision was fully im-
plemented in the early years and — with the exception of World War II — route
applications were generally heard "as speedily as possible." The controversy in
this period — and still today — centered on another provision of the Act, section
102(d), which states that one of the fundamental goals of CAB regulation is
"competition to the extent necessary to assure the sound development of an air-
transportation system properly adopted to the needs of the foreign and domestic
commerce of the United States, of the postal service, and the national defense."
"Competition to the extent necessary" is an ingeniously vague term, but
its legislative history clearly indicates that it was included in the Act to
make certain that, if competition could be provided economically, it should
he authorized.* Several large carriers, the most notable of which was Pan Ameri-
can, advanced another view : namely, if the incumbent carrier was providing
reasonably adequate service over a route, that carrier was the "chosen instru-
ment" for that route and competition should not be authorized. One of the CAB's
earliest actions was to reject the "chosen instrument" theory and to cast a
strong aflSrmative vote for competition in the airline industry :
3 The "as speedily as possible" requirement Is over and above the reoulrement In section
6(a) of the Administrative Procedure Act (.5 U.S.C. 5'.t.5) that "[w]lth due regard for
the convenience and necessity of the parties or their representatives and within a reason-
able time, eich acency shall proceed to conclude a motter presented to it." *s this nrovl-
slon appeared when the Administrative Procednre Act was Initially enacted in 1946, it
required each agency to "proceed with reasonable dispatch to conclude any manner so
presented" and was sneclflcallv intended to create a "legal requirement that no aprency
shall In effect deny relief or fail to conclude a case by mere inaction." (S. Rept. 7.52. 79th
Concr.. 1st Sess. IS (194.5).) The recodification of the Act In it«! present form restates,
"without substantive change, the laws replaced." (Pub. L. 89-.5.54, R9th Conp., 2d Sess.,
section 7(a).
* This provision was not Included in earlier versions of the Act in which the views
of the incumbent airmail carriers were dominant, hut was added at the insistence of
Government representatives. .Tones, Antitrust and Sneclfic Kconomic Resrulition : An Intro-
duction to Comparative Analysis, 19 ABA antitrust section 261, 309 (1961),
575
"As the justification for competition in any case does not depend upon the
failure or inability of an existing carrier to render adequate service, neither
does its ability and willingness to furnish a sufficient volume of service in itself
constitute a bar to a competitive service. The greatest gain from competition,
whether actual or potential, is the stimulus to devise and experiment with new
operating techniques and new equipment, to develop new means of acquiring
and promoting business, including the rendering of better service to the customer
and to the Nation and affording the Government a comparative yardstick by
which the performance of the carriers may be measured. Competition invites
comparison as to equipment, costs, personnel, methods of operation, solicita-
tion of traffic, all of which tend to assure the development of an air transporta-
tion system as contemplated by the Act." °
While this was certainly not a policy of free entry, it nevertheless made it
clear that the route system was not fixed when there was simply a carrier pro-
viaing service — the question, instead, was how many carriers could proviue that
service economically. And, when combined with the "public hearing ... as
speeoily as possible" requirement, those provisions produced, in the next two
decades a vast system of uomestic and international air service.
Not that the CAB granted every application it heard or, for that matter,
heard every application on its aocket. lo the contrary, the CAB quickly aban-
doned the first-come-first-served policy of assigning priority to applications and
used its discretion in this area to approach route applications in a logical se-
quence, setting down cases in individual markets when adequate support was
shown, or instituting on its own motion larger area investigations designed to
examine at one time a number of interrelated issues of route authority.
As time pas-sed and the Board founu itseif faced with a rapidly growing docket
of route applications, it took several steps aimed at helping it sort out those most
woriliy of prompt hearing. In Moz, the Board auopteu stanaards for priority of
hearing (14 CFR 399.60) and these are, at least nominally, still in effect. In 1968
and 1969 the Board adopted special procedures under subpart M and subpart
N of its proceaural regulations. There was a commendaole effort to shorten
sometimes elaborate hearing procedures in connection with the applications for
removal of route restrictions. The thou^^ht was that such applications tend to be
relatively noncontroversial and thus lend themselves to simplified proceaures.
Another action taken by the Board was the establishment in 1963 of subpart
K, a standardized system of forecasting the costs of operating routes proposed
by local service carriers. In recent year.s, with the advent of the route mora-
torium, subparts M and N have fallen into disuse. Subpart K costing, however,
is still used. As noted below, subpart K tends to overstate the cost of operating
a new route and makes it extremely difficult to show that any new service can be
operated profitably. Subpart K results have been relied upon frequently by the
Board to supiK)rt a decision not to hear a route application.
Finally, in recent years we have seen a shift to the "show cause" procedures
in those instances where the Board has agreed to entertain relatively minor
applications for new route authority such as "route realignments." Under those
procedures the Board announces a tenative decision first on the basis of staff
recommendation. These tentative findings are later made final if, as is usually the
case, no one demands a hearing in terms which the Board finds convincing. The
precise limits of Board power to act by show cause order have not yet been
established.
NORTH central's EXPERIENCE PRIOR TO THE 19 70's
Before examining the North Central applications that have been victims of the
route moratorium, it is important to note the company's experience in more "nor-
mal" times. North Central has received many awards of new authority in the
79 years it has been certificated. Four of the most significant for North Central
took place in the last half of the 1960's :
1. Twin Cities— Denver nonstop authority (CAB docket 18828). On Septem-
ber 26, 1966, the City of Denver applied for nonstop service to the Twin Cities,
sHawaiiin Airlines. Ltd.. et al., Hawaiian Case. 7 CAB 83, 103-104 (1946). Also see
American Export Airlines. Inc.-Certificate of Public Convenience and Necessity (Trans-
atlantic Service). 2 CAR 16. 29-31 (1940) ; Northeast Airlines. Inc., et al.-Western Atlantic
Route Case, 6 CAB 319, 323-320 (1945) ; Southwest-Northeast Service Case, 22 CAB 52,
60 (1955) ; Aloha Airlines, Inc., Hawaiian Airlines, Inc., Certificate Amendment Proceed-
ing, CAB order E-25650, at 2 (1967).
576
Omaha. Phoenix and Las Vesras. On April 12. 1967. Denver mored for an ex-
l)edited hearinc:. North Central supported that motion as it applied to its appli-
cation for Tvvin Cities-Denver authority. The Board granted the motion on
July 25. 1967 and instituted a proceeding which culminated on April 2. 1969. with
an award to North Central (.order 6i>— 1-20).
2. Milwaukee-Dayton Columbus Cincinnati authority (docket 19692). On
November 24. 1967. the City of Milwaukee and the State of Wisconsin applied for
new authority to certain Ohio points. The Board instituted an investigation on
March S. li>68 (order E-2l>488). and North Central was awarded the authority
on October 13. 1969 (order 69-10-57 K
3. Milwaukee-New York nonstop authority (docket 19097) . North Central filed
this application in the spring of 1967. together with a motion for an expedited
hearing. The Board instituted an investigation on Octol>er 11. 1967 (order E-
25S05>. and North Central was granted the authority on Jime 4. 1970 (order
70-6-36).
4. Omaha-Twin Cities nonstop authority (docket 1S401K The City of Omaha
tiled an application on October 21. 1966. and a broad investigation was instituted
on April 13. 1967 (order E-24977). North Central was granted Omaha-Twin
Cities nonstop authority on July 6. 1970 i order 70-7-24).
In each of these cases North Central was authorized to provide non top service
in comi^etition with an incuml>ent carrier. In general. North Central was chosen
over other carriers on the bit sis of cvmventional elements of public convenience
and necessity including the ability and incentive to provide a stiperior service.
In striking the balam^ in favor of North Central, the Board gave weight to
the fact that the new route v\ould strengthen North Central's existing system.
thus helping pay for service at many unprofitable points. A characteristic .shared
by all local service carriers is a very shi»rf average aircraft hop and passenger
haul. ( Even t<xiay the average passenger on North Central's system travels only
220 miles, the lowest jvissenger haul in the domestic airline industry.) By award-
ing larger, more dense routes to local service ctirriers. the Board enables them
to spread out their operating costs over a larger base as well as increase their
internal traffic load. By the same token each of the routes awarded to North
Central was made ineligible for subsidy. They remain as such and now contribute
to a reduction of North Central's subsidy uee<l.
It should be emphasized that not every North Central application heard resulted
in a route award.* The ix>int. however, is that, in a substantial iiercentage of
the cases where applications were heard, it was found that the public con-
venience and necessity required an award.
POST 1970 EXPEBIEXCE
North Central has not ^eoei^■ed a new route award since July 6. 1970.' It has
not had an applic:iti<^n for new route authority set down for hearing since
July 19. 1969.* What has hapjvned in the ivtst 6 years'? One thing that hasn't
happened is the failure of North Central to file such applications. North Central.
as well as a number of other carriers, have ct^ntinually presented the Board with
applit^nitions that ha\e either gone unnoticed, have been dismissed without a
hearing, or denied a timely hearing.
» In The Twin Citles-XTliwaukee Sontheasrt Points Investigation (docket 20267). North
Centrnl was an unsucoessful applicant for Twin Cit'es-Milwanke^-Atlanta— Tampa-Miami
authority. (Eastern was awarded the route.) Order 70-11-6. In the Chicasro-B.iltimore
Nonstop' SerNice Investigation (dix^ket 21101). North Central wa5 an unsuccessful appl'cant
for Chicaco-BalTimore nonstop auihoriTv. (TWA wa5 awarded the route.) Order 71-9-64.
In fact, in each of the cases where North Central received new authority that authority
represented only part of Xorth Central's appr.cation.
• Omaha-Twin Cities nonstop authority. Order 70-7-24. North Central did receive
in the interim an exemption to operate a Duluth-Winnipe? route pursuant to the U.S.-
Canada Air Transport Agreement, after agreeing to accept restrictions re<iuired by an
oppos'ns carrier.
* ChicaffO-Baltimore Nonstop Service Investigation, order 69-6-9S. On February 2. 1970
the Board did grant consolidation of a North Central Application (docket 212.'>4> in the
Ohto'Indiana Points Nonstop Service Investigation (docket 21162). However, for the last
five years no further action has been taken by the Board to move that case toward decision.
Xorth C-^ntraVs i>etirion fo- ro'Ue re.-j'inemenr — .1 reonest that <^rt'in resrrictions in
noncompetitive mstrkets on North Centrafs system be lifted — was filed on July 16. 1973
(docket 23705) and was gr:\nted with modifications by show cause proceedings on Feb-
ruary 5. 1975 (order 75-2-22).
577
In short. North Central encuimtered the full force of the route moratorium, a
policy which came iuto being quietly and without announcement." but which
has been enforced with unremitting diligence. The statute has remained the same ;
even the former rule on priority of hearings has remained on the books. The
Board has steadfastly refused to hear even the most compelling applications tc
add competitive service.
This is perhaps the most important point, namely, the moratorium has not only
been on Cvm,reiiiivf awanls — it has been on Juurini/s.^" 'the CAH has simply re-
ftised to permit a record to be developed on any of these applications. Three
North Central case histories will illustrate the situation :
1. Detroit-Boston nonstop authority (docket 24S74). American was granted
nonstop authority in this market in liMo. making it one of the oldest nongrand-
father routes. By 1968 Mohawk (which was later merged into Allegheny) had
one-stop authority, but the market had already emerged as the largest remaining
nonstop monoix^ly. By 1971' American was olTering only 4 daily nonstop round-
trips with a total of 940 one-way seats per day. The market was producing almost
550 O&D passengers per day. Some of the available seats were also occupied by
passengers moving to or from pi)ints beyond Detroit. Data filed by American with
the CAB revealeil that in 19;2 : the average coach load factor was 60 percent : one-
half of these coach passengers moved on flights with a coach load factor in excess
of 75 percent ; the prime flights routinely experienced coach load factors from 80
percent to 92 percent : and many passengers were being forced to fly first-class
by the high-coach load factors.
On October 27. 1972. North Central filed its application for nonstop authority
in the market together with a motion for expedition. North Central's motion was
supported by the Massachusetts Port Authority, the communities of Detroit.
South Bend. Grand Rapids. Kalamazoo. Flint. I^uising. Saginaw. Midland. Bay
City and Green Bay. the States of Michigan and "Wisconsin and Delta and North-
west. Allegheny. Delta and Northwest also filed similar applications.
Only July 16. 1973. the CAB denied the motion. Order 73-7-'i8. The grounds
given were : 1) no evidence of existing service deficiencies : 2) a lack of sufficient
beyond market traliic: ;s ) a stateti "i eMef " that the pmposal.s wouldn't reduce
subsidy ; and 4) a brief reference to the impending fuel shortage. Member Minetti
concurred i nt expie ed iiismay oer the ix)li('y ot vauiion." Member Murphy
dissented on the groimds that adequate justification had been given for the in-
stitution of a hearing.
On August 10. 19.3. North Central. South Bend, Kalamazoo and the State of
Michigan petitioned for reconsideration, contesting the Board's factual "find-
ings" and raising the legality of a policy of "caution.'" The various parties lined
up in stipport of or in opposition to the petitittn much as they had in response
to the initial motion. This petition was denied on March 27. 1974, by order 74-3-
120 (which, as we shall see. also denied two other North Central petitions),
with the CAB indicating that it had broad discretion to control its own calendar
and that it would continue to monitor the incumbent carrier's performance in
the market.
At the present time, the market has grown to approximately 600 O&D passen-
gers per day while American's nonstop service has declined from 4 to 3 round-
trips and 750 seats per day instead of 940.
2. Milwaukee-Denver nonstop authority (dockets 19676 and 26646). I'nited
has held nonstop authority in this market since 194(i. In 1968, North Central filed
*The existence of the moratorium as a formal policy w.ns recently acknowledged by the
CAB staff domestic route study : "Since approximately 1.970 cases Involving new domestic
route authority have generally not been set fo"- hearing and applications filed under sub-
part yi and X have been stayed or dismissed.' iForewnrd, p. i.)
'"The one exception to this is the Atlanta-PetroiT rieveland/Clncinnatl Investigation
(docket 20724). where the Biard. in effect, found itself with a case that was initiated
before the moratorium began. The case was set down on February 12, 1969 (order 69-2-55)
and on September 4. 1970. tlie examiner iss\ied an inl'ial i^e^ision finrfing -i neei for
competitive nouston service in each of the three nonstop markets at issue, by applicants
other than North Central. The Board did nothing for almost 2 years, then issued an order
on .Tuly 2S. 1972. finding that the record was "stnle" and remanding It for further
hearings. (Order 72-7-98). The Kxaminer. in a second in'tial decision, again found a need
for competitive service in each of tliese markets. However on Mav S. 1974. the Board
denied all applications (Order 74-5-18> on grounds that had no basis in the record —
the illeged fuel shortage. Thnt order is presently being challenged In the U.S. Court Of
Appeals for the District of Columbia circuit.
51-146 O - 76 - pt. 1
578
an application for nonstop authority in docliet 19676. After North Central re-
ceived Twin Cities-Denver authority in 191)9 with a single-plane restriction on
Milwaukee-Denver service, it applied under subpart M for removal of that
restriction. Ihe CAB, by order 69-8-77 held that subpart M was not applicable.
On July 31, 1970, North Central moved for an expedited hearing. Continental
filed a similar application together with a motion for expedition. Order 71-0-7
denied the motions, again over member Minetti's dissent, "without prejudice to
these carriers' right to file new motions for immediate hearing at such time as
economic conditions have improved."
By January 5, 1973, North Central felt that the economic condition had im-
proved. The market was generating approximately 110 O&D passengers per day
(a 17.3 percent increase over 1971) and United was still offering only 3 nonstop
roundtrips per day. Accordingly, North Central filed another motion for expedi-
tion, supported by the communities of Milwaukee, Denver and Dayton and the
State Oj. Wisconsin. Seventeen days after the motion was tiled, order 73-1-56 dis-
missed the underlying application as "stale." Finally, on July 25, 1973, order
73-7-129 denied the motion and upheld the dismissal, with member Minetti once
more dissenting. North Central petitioned for reconsideration, the denial of
which was accomplished by order 74-3-120.
North Central has retiled the application in docket 26646. At the present time,
the market has grown to more than 180 O&D passengers per day while United
still offers only 3 nonstop roundtrips.
3. Milwaukee-Philadelphia nonstop authority. Although smaller than the other
two markets, it is unique because in 1970 the CAB, in order 70-6-36, found a
need for two carrier competitive service and chose Northwest (over North Cen-
tral and several other carriers) to compete with United. By 1973 Northwest
had still not instituted nonstop service and United had dropped out of the
market entirely. Accordingly, on April 23, 1973, North Central applied for 5
years, experimental nonstop authority and moved for an expedited hearing. The
communities of Milwaukee, Madison, Duluth, and La Crosse, as well as Alle-
gheny and Ozark, supported the motion. United and Northwest answered in
opposition.
pn August 1, 1973, Northwest instituted nonstop service (1 roundtrip per day).
On August 3, order 73-8-24 denied North Central's motion. Another petition for
reconsideration was denied by order 74-3-120. At the present time the market
is producing more than 110 O&D passengers per day while Northwest still offers
only 1 nonstop roundtrip, and United continues to offer no nonstop service.
I believe it would be fair to state that, prior to the post-1970 moratorium, each
of the above applications would have at least been noticed for hearing. The facts
presented in support of a hearing were not, in our opinion, dissimilar from facts
which prior to 1970 resulted not only in hearings but competitive route awards.
Again, I am not saying that North Central's application would have been granted
in each of these cases. There would have been a number of other applicants in
each case, by both local service and trunk carriers. However, the final decision —
including the decision on whether or not to award any competitive authority —
would have been based on an evidentiary record.
In the process of making that record, the forecasts and contentions of all
parties, including the CAB's own staff, would have been subjected to review and
cross-examination in public proceedings. In lieu of that procedure we have been
encountering under the moratorium what amounts to the de facto denial of
applications based upon in camera proceedings within the Board. These internal
proceedings involve forecasts and contentions of the Board's staff which are not
made public or subject to challenge except to the limited extent they may be
reflected in the Board's order of denial. Let me emphasize that we are not ques-
tioning the obvious and general need of the Board for confidential communica-
tions with its staff. Our concern goes only to those instances where such
proceedings are used, in effect, as a substitute for the public hearings required
by the statute.
POSSIBLE ALTEENATIVES
Has the domestic air transportation system reached its point of optimum
growth and should it now be subject only to consolidation and contraction? We
obviously think not, and even if there were some truth in this assumption, that
could adequately be determined only through the hearing process.
579
North Central, as well as other carriers, have not given up and continue to
seek new authority that they believe will benefit themselves as well as the entire
system.'^ The possibility of judicial redress through a mandamus action, while
available,'" is frankly a difficult step to take, if for no other reason that the
reluctance of the courts to intervene in matters of agency discretion."
North Central believes that it, and other applicants, are entitled to something
more in keeping with the statute than the moratorium of the last 6 years. One
possible alternative was suggested by the CAB staff in its recently released
study of the domestic route system ^* which called for the adoption of new formal
standards for granting hearings. Presumably the standards proposed by the
staff would be in lieu of the present moribund rule on priority of hearing.
The staff proposal would have the advantage of equating policy with practice,
but unfortunately it seems to create a presumption that most applications should
not be heard. Ihe key problem is that the proposed standards — which require
the applicant to submit, inter alia, a 2-year profit and loss not only for itself
but also for any other carrier competing in the market — go far beyond the
the information the CAB requires in order to make the kind of threshold deter-
mination needed to manage its docket. The proposed standards would be, in
effect, decisional standards, precisely of the type the CAB might apply to a
record developed in a public hearing. Under the staff's proposal, however, there
would be no hearing to test the reliability and probative value of the informa-
tion submitted, and the CAB would still be free to deny hearings at will, some-
thing it could do quite easily :
One proposed standard would require an applicant for competitive authority
to demonstrate that the proposed operations would earn at least a 12 percent
rate of return on investment in the first year. This requires a forecast of traflBc
and costs. For local carriers, subpart K presumably would be used to forecast
the costs. However, that subpart establishes an impossibly high return and
tax requirement. Because of a number of faulty premises (including an assump-
tion that every operation will be conducted with newly purchased aircraft).
Subpart K requires a profit generally to approximate 40 percent of the operating
costs on a typical route proposal. Put another way, unless the applicant can
project that revenues will exceed expenses by 40 percent in the first year, a
hearing will be denied. In our judgment this burden of proof has no proper
relationship to the question of whether or not the application should be heard.
Another proposed standard would deny a hearing unless the applicant could
show that it would not divert more than 35 percent of the incumbent carrier's
traflSc. This may or may not be adequate grounds for denying an application
after a hearing, but the fact is that, in the absence of public hearing delving
into the question of the incumbent's service in the market, it is simply not
possible to determine an acceptable level of diversion.
In short, the alternatives suggested by the CAB staff would seem likely to
merely memorialize the in camera process that North Central and others in the
industry have experienced during the past several years.
What then are the other alternatives? In an ideal world of course priority of
hearing standards would not be required because the Board would be compelled
to set down and hear all applications in literal compliance with the "speedily as
possible" language of the statute. However, this is a "luxury" which the appro-
priations process has never seen fit to provide, apparently on the assumption
that, if all applications were heard promptly, time and money, both governmental
and nongovernmental, would be wasted.
11 For example. North Central recently filed an application for Chicago-New Orleans
nonstop fiuthority together with a m icion fcr expedition. The market ia similar to
Milwaukee-PhlladelpMa In chat compttltive service was authorized only a few years ago
but has since disappeared.
12 Section 10(e) of the Administrative Procedure Act (5 U.S.C. 706) confers the ability
to seek a mandatory injunction to "compel agency action unlawfully withheld or unreason-
ably delayed." See International Assn. of Mech.&A. Wkrs. v. N.M.B.. 425 F.2d 527 (D.C.
Cir. 1970) ; Kessler v. FCC, 326 F.2d 673 (D.C. Cir. 1963) ; Harvey Radio Laboratories v.
U.S. & FCC, 289 F.2d 458 (D.C. Cir. 1961) ; Bearing Milliken, Inc. v. Johnston, 295 F.2d
856 (4th Cir. 1961).
13 See City of San Antonio v. CAB, 374 F.?d 326. 329 (D.C. Cir. 1967); Frontier
Airlines. Inc. v CAB 349, F.2d 587, 591 (10th Cir. 1965) ; Great Lakes Airlines, Inc. v.
CAB. 293 F.2d 153 (D.C. Cir. 1S61 ).
1* CAB, Bureau of Operating Rights, The Domestic Route System : Analysis and Policy
Recommendations (October 1974).
580
Assuming that the CAB continues to function without the resources to hear all
applications speedily, it must of necessity pick and choose some applications for
prompt hearing in preference to others. This picking and choosing must be pur-
suant to some concept of public interest. We think it not unreasonable that the
agency should, after appropriate public proceedings, indicate the specific public
interest standards it intends to use in managing its docket. To the extent the
Board's Domestic Route Study proposes that some standards be adopted after
public proceedings, it is a step in the right direction. The difficulty, as noted
above, is that the standards proposed by the staff would be such as to assure
the de facto denial of most applications without hearings.
What standards would make sense? We believe that, at the outset, any stand-
ards fixed should be such as to allow for hearing the maximum number of appli-
cations the Board is physically capable of handling. Obviously, the standards must
also be somewhat general in nature, and they must allow for unforeseeable cir-
cumstances. At a minimum, however, they must be objective in nature, dealing
only with readily identifiable facts, such as : whether the market has competition ;
when service needs in the market were last considered by the Board ; and historic
traffic flows. As a general principle we do not beileve the determination of whether
or not to hear an application should be made on the basis of a forecast, whether
by a carrier or the CAB staff. In route cases, all forecasts are inherently contro-
versial. The probing of such controversy is the function of the hearing. When
the Board decides such matters before hearing, it robs that process of its principal
purpose.
In concluding let me emphasize that we fully recognize that the job of estab-
lishing fair and reasonable standards for priority of hearing is not an easy one.
The above comments represent only our preliminary observations on this matter.
As you may know the Board has indicated that it intends to ask for formal com-
ments at a later date on the priority standards suggested by its staff. North Cen-
tral, possibly in conjunction with the other local service carriers, expect to direct
more specific comments to the Board at the appropriate time. Meanwhile, how-
ever, we appreciate this opportunity to share at least our initial thoughts on
this problem with the subcommittee, and we are hopeful that your consideration
of this matter will help all of us think our way towards a sound and constructive
solution to this most important issue of administrative procedure.
Prepaked Statement of Harvey J. Wexler
Mr. Thomas D. Finney, Jr., Washington counsel for Continental Air Lines and
a member of Continental's Board of Directors, and I appreciate the opportunity
to appear at these hearings. They could not come at a more appropriate time. We
are at an important crossroads in the air transportation industry. The Civil
Aeronautics Board has passed from the era of the sixties when it encouraged
competition both in pricing and routes to a period of overly-protective action
during the first half of the decade of the seventies. We at Continental believe
that it is a time for a sharp change in direction— time to return to giving full
force and effect to the competitive mandate of the Federal Aviation Act of 1958.
Before proceeding with the issues before you and our suggestion for a positive
plan of action to move forward in the public interest, let me note that we have
submitted detailed comments to your committee's questionnaire of November 20,
1974. Our submission was sent December 20, 1974 and I would welcome the
opportunity to expand on any of the answers we submitted as well as my testi-
mony todav. We have tried to respond as fully as time permitted.
It goes without saying that Continental will assist the subcommittee in any
way in which it can. We recognize that the Congress has the ultimate respon-
sibility for the regulation of interstate and foreign commerce. The major limita-
tion on our comments today is that placed upon us by the Board's rules of
conduct, namely not to seek any indirect interference — outside the public
recoTd— by members of Congress or its committees in pending CAB proceedings.
Within that one limitation, I will seek to expose our basic thinking and to
answer your questions fully.
Just about four years ago. Continental's president. Bob Six made dear our
basic view that competition, in both service and rates, is absolutely essential to
preserve a healthv. effective air transportation industry. On Febrnarv .^. 1971,
in his appearance before the Aviation Subcommittee of the Senate Commerce
581
Committee, Mr. Six warned against the airline prophets of doom and gloom and
their anticompetitive proposals. Let me begin my discussion of the substantive
issues before you by quoting from his opening remarks :
"I would be the last person to tell you that the airline industry doesn't have
serious problems. The management of every airline is experiencing great difficul-
ties and a profit is hard to come by. Times are admittedly bad. But the point I
want to stress at this hearing is that the industry can survive without our
radically altering the competitive structure of the industry or drastically
revamping the regulatory framework.
"The real cause for worry is the disastrous impact on the industry and the
public which would result from adopting some of the solutions being proposed
by the "Big Four" and Pan American. We have serious problems today at Con-
tinental. But, frankly I am much more worried that the Government might
accept some of the big carriers' proposals than I am about working my company
out of the current economic slump."
The situation is not much different today. Then, we were in the midst of the
1970-1971 recession. Now, we are in the midst of the 1974-75 recession. There
are only two differences. In 1971 most airlines had just finished a relatively poor
year in terms of profitability because of a serious regulatory lag in considering
fare increases to meet escalating costs. In 1974, the efficient carriers had a reason-
ably good year. Two of the biggest carriers. Delta and United, had record profits.
However, now we face the prospect of further drastically escalating fuel costs.
If the President's program of decontrol and import taxes goes into effect, we
estimate that our costs would increase by $33.7 million this year. It would take
a substantial fare increase to offset this expense. However, with fares already
at a high level, such an increase is likely to drive a significant amount of traffic
away from the airlines.
Even with these differences, our judgment has not changed. The real threat
remains the anticompetitive remedies urged on the Board in 1971 by the Big
Four and Pan American, most of which unfortunately have been adopted by the
feoard in the last four years. It is the continuation of these anticompetitive
policies which threatens the health of the air transportation industry.
The principal remedies advocated by the Big Four in the 1970-1971 period, as
discussed by Mr. Six were mergers, capacity agreements, controls on in-flight
services, a moratorium on new route awards, and the imposition of further limi-
tations on the supplemental carriers. He opposed all of these solutions then and
we oppose them now.
A majority of the Board — and I emphasize majority because there has been a
healthy disagreement among the members — have put into effect all but one of
these solutions. Fortunately, the merger of health trunklines was denied in the
American- Western and Northwest-National merger cases. We took a major role
in opposing these mergers.
In addition to these anticompetitive remedies, the Board has stifled fare com-
petition. It brought an end to the promotional fares, which were so successful in
generating traffic in the mid and late sixties. Only recently has the Board realized
that new promotional fares are needed to stimulate sagging traffic but it has
approved them only on a highly restricted basis.
In addition, the Board now seeks to kill our economy fare. This is an un-
restricted low fare available in all of Continental's markets — and only in Conti-
nental's markets on the U.S. mainland. The fare is presently 10 percent below
coach and we have asked to increase the discount to 15 percent below coach
to stimulate traffic in these bad economic times. Instead, the Board is
seeking to force us to increase the fare to a maximum differential of .$4 and
eliminate it altogether on nonmeal flights. This would destroy the marketability
of the fare and effectively force us to eliminate it entirely. We have appealed
the Board's action to the U.S. Court of Appeals for the District of Columbia. We
also presently have before the Court the issue of the Board's route freeze and its
seating standards. We have raised the issue of the inconsistency of all three
actions with the competitive mandate of the Act.
This brings me to the heart of the issues before you in this phase of your hear-
ing, namely the Board's route policies. I have agreed to testify again in the pha.se
dealing with the Board's ratemaking process. So I will direct my remarks today
principally to the Board's route policies and the policy of "open entry" suggested
by some prior Administration witnes.ses.
Continental firmly believes that the regressive policies adopted by the Board
must come to an end. Specifically, we urge the following changes:
582
(1) Expanding service to the public. The Board has had a freeze on new route
awards since 1969. This freeze was never justified and should be brought to an
end. The oft-heard generalization that the economic problems of air carriers
are the result of too much competition in the air transportation system is non-
sense. The route awards of the 1960s were in no way responsible for the losses
carriers sustained during the 19(0-1971 recession. During that period, the
smaller, more efficient carriers pulled through with small profits. It was the big
carriers who suffered. They simply couldn't respond to changed economic con-
ditions with sufficient rapidity because of their size. Moreover, the two carriers
which suffered the greatest number of new route awards to other carriers in
their major markets, namely Delta and United, have remained highly profitable.
The reason is that they are well managed and even the substantial new route
awards of the late sixties are relatively insignificant in their economic impact
on the incumbents or the carriers granted awards.
The prime beneficiary of new route awards is the public. New route awards
are essential to assure the continued growth of a network of air transportation
10 meet the needs of all communities. New route awards also assure a com-
petitive industry, responsive to the public needs. Carriers will provide effective
service so long as the threat of additional carrier certification hangs over their
head. Without that threat, we become lax and seek to extract maximum profits
from our routes, often at the public expense. Moreover, new route awards
are the proverbial carrot that keeps us pulling our carts. They are the incentive
for efficient operation and a high quality of public service.
I might note that the recent study published by the Board's staff purporting
to set standards for route awards in the future is no more than an outgrowth
of the Board's recent regressive policies. The study proceeds from the wrong
policy objective : the protection of carrier profitability. The underlying objective
should be to meet the needs of the markets and to properly serve the public.
For example, the study urges that competition not be certificated unless the
incumbent has a 6 percent overall rate of return. That has nothing to do with
need of a particular market. The study also urges that competition should
only be certificated when the incumbent and the new carrier can each achieve
a 12 percent rate of return in the market involved for the first year of competi-
tive operation. This substitutes carrier profits for public service and the benefits
of competition. The study also urges achievement of a 55 percent load factor
before competition can be certificated. Load factor alone is not the test of
whether a market needs or can reasonably support competitive service. These
standards ignore years of Board precedents recognizing "the statutory need for
competition as a stimulus to provide good service to the public and to develop
a sound air transportation system."
As Congress and the Board have recognized in the past, competition is bene-
ficial in and of itself. In the Board's own words, "competition invites comparison
as to equipment cost, personnel, organization, methods of operation, solicitation
and handling of traffic, and the like, all of which tend to insure the development
of an air transportation system as contemplated by the Act." These important
benefits of competition seemed to have been overlooked by the Board in the recent
past.
(2) The Board should take immediate steps to liberalize carrier operating au-
thority. Every carrier is hampered in its service by outmoded restrictions, imposed
years ago. Tlie justifications for many of these restrictions have disappeared, yet
the restrictions hamper us in meeting public service needs and operating more
efficiently. The Board undertook a program to consider restriction removal, but
this program stalled out. The Board removed only a few restrictions that were
non controversial. Others, to which there was opposition which required a hearing,
were never set for hearing — a byproduct of the Board's route freeze.
(3) The Board should stop trying to manage carrier .service policies. Its restric-
tive seating standards controvert the statutory mandate to leave schedules, equip-
ment, accommodations, and facilities to the discretion of carrier management. At
the same time, the Board should be encouraged to set standards of efficiency for
determining rates. We supported the adoption of such standards and the expan-
.sion of the elements of carrier efficiency to be tested. The Board should, however,
leave actual operating decisions to carrier management. Any carrier that fails to
operate efficiently within the.se standards will sustain losses, but the public won't
bear the cost of inefficiency. Any carrier that operates with a higher than average
583
degree of efficiency will be free to either profit from that efficiency, or offer the
public better service or lower fares, or a combination thereof.
(4) The Board should give the carriers much greater freedom to experiment
with promotional fares and to compete with lower fares. The Board's present
policies are too restrictive and put a damper on experimentation which benefits
the public and benefits the industry. We supported and continue to support
fare flexibility within at least a zone of reasonableness, as urged by the
Departments of Justice and Transportation.
(5) The anticompetitive, capacity restraint agreements should be brought to an
end. These agreements were approved on an emergency basis due to the failure
of the Bi,.^ Tiiree and i an Am in 1970 to respond with suflScient rapidity to
economic adversity. They have been extended with the rationale of fuel con-
servation. Today, they have simply no justification. However, in the recent words
of a majority of the Board, they have become the "status quo." All they do now
is eliminate competition between the Big Three in their major competitive mar-
kets and give each of them tremendous new competitive power in other markets
for use against smaller carriers. Surely, United Airlines with a record profit
of $86.4 million in 1974 and $400 million in cash does not need the protection
of these anticompetitive agreements.
None of these changes require any legislative section. In fact, all are con-
sistent with the existing statutory requirements, key among which is the com-
petitive mandate of section 102(d). All of these regressive Board policies
requiring reversal presently are being tested before the U.S. Court of Appeals
for the District of Columbia on the basis that they are contrary to the statute.
We have three such actions pending, as I mentioned earlier. The Justice De-
partment is contesting the capacity restraint agreements.
If the Board does not voluntarily change its direction soon, and is not required
to do so by the Court, then legislative action might become necessary. Such
action, hosvever, need only reinforce the successful statutory scheme already
adopted and should consist of the following elements :
(1) State clearly in section 102 of the Act that there is a statutory mandate
in favor of competition. Section 102(d) directs Board action to promote competi-
tion. AVhen enacted. Congress made clear that this was intended as a competi-
tive mandate. The Board for years so interpreted it. But recently, a majority
of the members have put the emphasis on the qualifying clause which states "to
the extent necessary." The Board has gone so far as to thrust aside its own
precedents recognizing the existence of a mandate in favor of competition and
enunciating a presumption to the effect The mandate can be made even clearer,
if the Board persists in its present position.
(2) State clearly in section 401(e) that the Board cannot interfere indirectly
with management discretion in schedules, equipment, accommodations, and fa-
cilities, through its ratemaking process. Again, the change should not be neces-
sary. We believe the statute is clear and recent action by the U.S. Court of
Appeals for the District of Columbia supports this position. But if the Board re-
mains reluctant to permit needed competition, more explicit congressional direc-
tion may be required.
(3) State clearly in section 1002(e) that in considering proposals for promo-
tional fares or reduced basic fares, the Board must take into account the genera-
tive impact of such fares on traffic. Again the statute would appear to be clear
enough, but the Board has taken the position that fares must be strictly cost-
related, except for short-term promotional fares. If the Board persists in this
position, it will need clearer congressional direction.
(4) Modify the Act to permit carrier freedom to set fares within a zone a
reasonableness to be established by the Board. The Board could do this under its
exi-sting authority but rejected this approach, as recommended by the Depart-
ments of Justice and Transportation and a few of the carriers including Con-
tinental. If the carriers are to be free to set fares within a zone, legislative action
is required.
There is one other statutory change that would materially improve the com-
petitive climatp. That is modifi«^ati'''n of section 414 of the Act granting antitrust
immunity. We agree with the Department of Justice that this section needs to be
changed. The Board unfortunately has not given adequate weight to the views
of the Justice Department, which has actively sought to protect the public in-
terest through this period of regressive agency action by participation in CAB
584
proceedings. One way to assure that this will not happen again is to remove the
antitrust immunity created by section 414 — at least to the extent that action
by the CAB approving agreements would not preclude the Justice Department
from bringing an action against the parties under the antitrust laws. Section 4i4
might be retained to protect parties to an agreement from subsequent private
suits following a hearing and CAB approval.
Thus, it is our view that a significant change in direction is needed and can be
obtained to a large extent unuer the present statute. If changes are necessary,
they are largely changes to reinforce procompetitive provisions already set forth
in the statute. The only change in the statute that is necessary is a mouification
of the antitrust immunity.
Xnis bungs me to tue issue of "open entry." We agree with the Departments of
Justice ana Transportation that a change in the competitive environment is
necessary. I'm afraid, however, they would get rid of the bugs in the house by
burning it down, rather than simply resorting to fumigation.
Open entry might vvorK were we starting from scratch. I would note, however,
that prior to the 1938 Act conditions in the infant air transportation industry
were chaotic. There was a serious lack of safety and a large element oi economic
uncertainty, with many carriers in serious trouble and falling by the w ayside. A
cohesive system of transportation to serve the public was nonexistent.
More recently, contrary to the generally held view, open entry did not work
among intrastate carriers in California. That experiment began over 25 years ago.
Most of the carriers went bankrupt — 14 in all. In fact, I understand that United
and Western often found themselves faced with thousands of passengers who
had a return ticket on a carrier that was no longer in existence. But for their
generosity, the passengers would have had trouble getting home.
This is not to detract from the success of PSA or Air California. We at Con-
tinental have great respect for pioneers and innovators. Kenneth Friedkin of
PSA was both. He did a great job. But his experience is hardly the basis for a
generalization about our national air transportation network. He had a number
of unique benefits.
Let me mention a few facts that are often forgotten in citing PSA's success
story. First, PSA began in the high density San Francisco-Los Ange'es-San Diego
markets. San Francisco-Los Angeles is the largest market in the world — by a
wide margin. PSA had no service responsibilities to smaller communities. Second,
for many years PSA got a real benefit in operating costs — about a 25 percent edge
over its competitors, by operating under visual rather than instrument flight
rules into the congested Los Angeles and San Francisco International airports.
The certificated carriers, all of which had agreed to operate under positive con-
trol, were subject to an average of 15-minute delay since they operated under
instrument control. In contrast PSA was permitted to pop in and out of these
approximately one hour flight segments, thereby saving substantial amounts in
operating expense. Third, PSA had no unions and paid its pilots and crews on a
piece-meal basis — a specified amount per trip. FourtJi, PSA was free of regulation
on ticket sales. It used hotel doormen and bellhops, noncoms at the San Diego and
San Francisco Naval Bases and anyone who would peddle its tickets. Fifth, and
of great importance, PSA and Air California are carefully protected from com-
petition by new entrants by the California Public Utility Commission and have
been so protected for almost 10 years. Thus, PSA is the example of how a
specialist can enter the air transportation field, pick a few dense markets, and
provide service on a highly profitable basis at lower fares. But, it is no argu-
ment for unregulated, open entry.
PSA has had a highly protected and special position. No other intrastate
carrier has been permitted to compete with PSA and vice versa. Open entry
also has not worked well in the air-taxi indtistry. A large number of carriers
have gone in and out of business. The public served by them end up with un-
certainty in their air service. Assuring' such certainty to the public was a major
reason for certificating Air New England to provide needed service to fill the gap
created when Northeast was merged out of existence.
In considering this subject, I also ask you to bear in mind that our certificates
confer an obligation as well as a benefit. We have good markets ; we have mediocre
markets; and we have poor markets. But, we must serve them all. And. we live
in a fishbowl. If we don't meet our obligations, the Board will quickly hear
about it. So long as there is a real threat of new competition being certificated
585
and we are rewarded for good service and efficient operation by new route oppor-
tunities, we'll do our job well— serving the thin routes as well as the fat ones.
We even have the incentive to undertake developmental responsibilities, such
as Continental's pioneering service to :\[icronesia and our pioneering effort to
develop service between Seattle-Portland and the so-called satellite airports
in the Los Angeles and San Francisco areas. We perform these tasks with the
hope that our good efforts will lead to new, significant route opportunities.
The theory of the present system is to create a total air transportation net-
work— to bring fast, convenient service to every community that can possibly
support it. At the outset, new services often are marginal or may even be
operated at a loss. Some come around quickly ; some get cross-subsidized for
quite awhile by our profitable operations. But the service is provided and a very
complete network has been established. This permits the develompent of the
economy of our smaller as well as our large and intermediate-sized communities.
When you look at the results, the situation begins to come into perspective.
We have established an unusually complete air transportation network, more
complete than anywhere else in the world. Moreover, it is a relatively efficient
operation. Our present competitive system has brought the lowest cost to the
public of any air transportation system in the world. Illustrative comparisons
are shown on appendix A.
Further, the assertion that there have been no new entrants is inaccurate. Use
of numbers alone is deceptive. In 1938, there was no local service carrier indus-
try as such. Today, there are 8 regional carriers. In 1938, there were no supple-
mentals. Today there are 10 supplemental carriers. In 1133, many of the trunk-
line carriers were tiny and had limited responsibilities. For example, we served
only 624 route miles and a geographic area covering 8 cities in 3 states. Today,
as the smallest trunkline, we serve 17,020 route miles and 31 cities in 14 states,
excluding Micronesia. In addition, there are today two neA elements: the intra-
state carriers principally in Texas and California and a large number of air-
taxi operators. Compared to any other transportation system, this is a highly
competitive system. And, the public is getting a high-quality service at reason-
able prices.
We have given considerable thought to what would happen if we were to
move from the present system of route security to a system of a generally uncon-
trolled open entry. I hope we havent become so hide-bound in this industry as to
lose sight of the nerd for innovation and change. After all. Continental under the
leadership of Bob Six got to where it is today by bucking the system— pressing
for new opportunities and greater competitive freedom, 'that's why we're fighting
so hard today against what we regard as anticompetitive Board policies. We re-
gard their overlv-protective policies as rortrary to the public interest. We want
them changed. We want more freedom and are fully prepared to seek more free-
dom for others.
In our judgment, however, open-entry and freedom of air carriers to serve any
market they choose would be a tragic mistake. Whatever theoretical studies may
indicate, we believe the practical consequences would be disastrous.
First and foremost, I think we would risk losing many of the links in the net-
work of air service that have been so carefully created, as each of us scurried to
avail ourselves of what we believed to be the most profitable opportunities.
Moreover, there would be a constant shifting of our service to improve our profits.
The situation for the traveling public and shippers is likely to be chaotic. Smaller
communities are bound to suffer from service gaps and, even more significant, un-
certainties in their air service. The result would be to stifle the growth of these
communities. Industry would tend once again to cluster around the major cities
where transportation needs would more likely be met with some continuity. To
get reasonably good ser\ice to smaller communities would probably require heavy
government subsidization.
Second, the threat of oligopoly in this industry would increa.se. Without se-
curity of routes, smaller units would have difficulty surviving. There might well
be a lot of small entities going in and out of business, as occurred in the Cali-
fornia intrastate situation and in the air-taxi business. But the major elements
serving the mass of the public are likely to be reduced to a very small number.
Predatory practices by the biggest carriers would be difficult to control as car-
riers shifted from market to market. Consider for example the economic power
of United Airlines with over $400 million today in cash and liquid securities.
586
In an open-entry situation, they could control markets at will. In a regulated
situation, they are under much more significant restraints not to abuse their
substantial power. You must remember that to operate larger jets substantial
financing is required. Without security of routes, I can't imagine the bankers
and insurance companies lending the millions of dollars needed for ground and
air equipment required in our business. If I'm right you'd end up with a few
large, high-cost operators serving most of the public. This would inevitably lead
to higher prices and a lower quality of service.
Third, technological development might be stifled. Manufacturers won't build
new aircraft without firm orders in advance of production from financially
secure purchasers. There thus has been no significant development of new air-
craft for the air-taxi end of our industry.
Fourth, is the impracticality of the free movement among markets presumed
by the proponents of open-entry. No one suggests freedom in international routes.
This means that only those carriers without international routes would be with-
out any route security. This would put a carrier like Continental at a grossly
unfair position vis-a-vis a carrier with a strong international route structure.
We would have no anchor. They would. They could direct their attention to do-
mestic markets feeding into their international routes, creating a strong eco-
nomic base for their operations. We would be left to fend without such a base.
This could result in a domestic route system principally geared to serve inter-
national routes.
The nub of it is that we have a reasonably successful air transportation system
today. I urge that we try to make it work better before substituting another
system.
Let me add that we don't oppose new entry into the industry. What's happened
in New England, for example, justified new entry. Other new entrants may be
called for to meet special ne^^ds or merely to assure the continued healthy spur
of competition to the industry. We have no objection to congressional pressure on
the Board to consider the applications of new entrants for certificate authority ;
but we must recognize that without the security of a certificate, financing neces-
sary to success is difl5cult to obtain on a continuing and reasonable basis.
The Board has been lax in this area. They have been unwilling to consider
the applications of new entrants even in good times. Maybe legislation is neces-
sary to force them to do so. We would welcome the opportunity to work with
Congress to suggest legislation to require such consideration. But this is a far cry
from open entry and the unlimited freedom of carriers to choose which they will
serve and which they will abandon.
Let me close on a positive note. The Civil Aeronautics Board in a 1950 decision
stated that :
"An objective reading of the Civil Aeronautics Act leaves no doubt that the
lawmakers considered competition to be a desirable objective which should be
established wherever it is economically feasible and will contribute to the de-
velopment of a sound national air transportation system."
It's time to return to this kind of positive orientation to permit continued
growth and development of our air transportation system. It's time to bring an
end to the recent period of regressive policies. I hope that this subcommittee and
this Congress will bring its energies to bear to this end. But we have a basically
sound system and good statutory framework. Let's try to make it work as the
Congress intended in 1958 before radically altering it and destroying our ex-
cellent network of air transportation.
587
APPENDIX A
COMPARATIVE UNITED STATES AND FOREIGN COACH FARES
Market
Lcndon-Paris
Lubj ck-Lawton
Lon.on-Frankfurt
Colorado Springs -Wichita.
Lisbon-Milan
Houston-Phoenix
Athens-Amsterdam
Kansas City-Poitland
Osaka-Seoul
Amarilb-Houslon
Tokyo-Seoul.
El Paso-Los Angeles
Taipei-Tokyo
New Orleans-Phoenix
Hong Kong-Tokyo
Chicago-Los Angeles
Brisbane-Sidney
Tu'sa-Houston
r ert i-Adelaide
New Orleans-Phoenix
Darwi i-Adelaide
San Fiancisco-Houston...
209
$55. 17
205
26.65
400
87.90
404
44.44
1,037
158.67
1,010
87.04
1,466
237.48
1,481
117.59
511
79.12
518
bl.85
725
105. 66
714
63.89
1,304
151.39
1,301
104. 63
1,788
237. 87
1,744
135. 19
465
51.20
423
45.37
1.316
130. 30
1,301
104. 63
1,630
164. 00
1,636
128.70
' Based upon rate of exchange as of Feb. 11, 1975.
Note: Intra-Canada fares approximate those of the United States. The Canadian fare structure is more tapered than the
Unied States, i.e., Canadian short-haul fares are higher than the United States.
DIALOG BETWEEN CONTINENTAL AIRLINES AND DR. WILLIAM A. JORDAN ON
THE SUBJECT OF CALIFORNIA INTRASTATE AIRLINES
[On February 14, 1975, Dr. William A. Jordan testified concerning
the low- fare air service in California provided by intrastate carriers
not regulated by the CAB. See p. 452 ff., above. During the hearing
of February 18, 1975 Senator Kennedy asked Continental Airlines to
comment on Dr. Jordan's testimony. Mr. James L, Mitchell, vice presi-
dent of regulatory proceedings, responded for Continental. Dr. Jordan
replied, and Continental commented further. These materials follow in
chronological order.]
Prepared Statement of James L. Mitchell
March 31, 1975
The purpose of this statement is to respond to the request made by Senator
Kennedy to Mr. Harvey J. Wexler, senior vice president for international and
governmental affairs of Continental when he testified before the subcommittee
on February 18, 1975. The request was for any comments Continental might have
regarding the analysis of the California intrastate situation presented to the
subcommittee by William A. Jordan on February 14, 1975.
588
I have closely observed the California intrastate situation over my past 29
years in the air transportation industry. From March 4, 1946 to September 1,
1968, I held various positions in Western Airlines, dealing principally with air-
line scheduling, market research, route analysis, and the preparation of route and
rate cases. I began in Western's Los Angeles ticket office. From mid-1947 to mid-
1949, I was manager of sales control and research. Two of my major functions
were aircraft scheduling and the analysis of traffic and sales data to deter-
mine allocation of sales and advertising expenditures. On July 15, 1949, I be-
came director of research and, later, vice president of research. My functions in
this capacity included the responsibilities of my previous job together with the
responsibility for the preparation, analysis and presentation of Western's route
and rate cases before regulatory agencies, including the California Public
Utilities Commission.
On September 1, 1968, I joined Continental as staff vice president of corporate
planning with responsibilities for all economic planning projects, including such
matters as fleet planning, schedule analysis and advanced route planning. On
February 1, 1973, I became vice president of regulatory proceedings, where I
have continued to work on advanced planning projects and have assumed re-
sponsibility for the preparation of all route and rate cases.
Throughout my almost 30 years in the airline industry, I have resided in the
Los Angeles area and have maintained a close and continuing interest in the
California intrastate air carrier operations. This was an important part of my
job at Western, inasmuch as Western had and still has a significant operation in
the California intrastate markets.
It was in connection with this activity at Western that Professor Jordan did
much of the background work that led to his doctoral thesis on the "Economic
Effects of Airline Regulation." In 1960, I hired William A. Jordan as an analyst
in Western's research department. His functions were to aid me in the prepara-
tion of material for presentation in regulatory matters before the Civil Aero-
nautics Board and the California Public Utilities Commission. He worked for
me in that capacity until 1964, spending part of his time at the University of
California on his doctoral work. I am thus intimately acquainted with the
material he compiled on the California intrastate carriers.
While at Western, I also worked closely with the California Public Utilities
Commission. In fact, during 1949 and 1950, I provided considerable assistance
to the staff of the Commission, to help them to learn about the regulation of air
transportation. Up to that time, the Commission's activity had been focused on
truck and rail transportation. During a portion of their learning period, the
Commission staff worked out of my office.
Since moving to Continental, I have maintained my interest in the California
intrastate air transportation activity on a personal and professional basis.
Shortly after coming to Continental, I interested the carrier in serving the so-
called "satellite" airports in the Los Angeles and San Francisco areas. Con-
tinental began operations at Ontario in connection with its Chicago-Kansas
City-Denver-Los Angeles route, and later was authorized to provide service
between the Pacific Northwest terminals of Seattle and Portland and all the
satellite airports at San Francisco (Oakland and San Jose) and Los Angeles
(Burbank, Long Beach, Ontario and Santa Ana).
Professor Jordan's studies, conducted largely during the period when he
worked for me at Western, form the basis for his contention that free entry and
exit in the domestic air transportation system would significantly benefit the
public. His position, in turn, appears to provide a basis for the position on entry
and exit taken by the Department of Justice. See particularly page 18 of Mr.
Kauper's testimony of February 6, 1975, and page 7 of Mr. Baker's testimony of
February 18, 1975.
I believe that Professor Jordan has accurately and quite fully set forth the
history of the California intrastate situation prior to September, 1965. I depart
from him, however, in the conclusions he draws from these facts. His principal
conclusions from this experience are that: 1) the intrastate service pattern
produced far healthier results for the traveling public than did the regulated
U.S. domestic industry; 2) absent regulation, there would be 200-300 air car-
riers in the United States, and fares would be lower; and 3) the period of "ad-
justment" after the institution of free entry and exit would be in the order of 10
years. I believe that the history he has compiled refutes these conclusions and,
in fact, establishes that : 1) there would be serious instability in the markets that
are served, and many markets served today would not be served; 2) this insta-
589
bility would not decrease after an initial period; 3) a large number of small
carriers would enter and exit, and their entry and exit would liave little to do
with public need for service; 4) after a prolonged "shakedown" period which
would exceed the 20 years experienced in the comparatively simple California
situation, a small number of large carriers would eventually dominate our air
transportation system; and 5) over the long term, fares would be higher and
service would be inferior to that existing under a properly regulated system.
1. The Relevance of the California Intrastate Experience. — I agree that the
only experience that exists on what has occurred with a free entry and exit sys-
tem in the air transportation field is the California intrastate experience. At least
for a 20 year period from 1946 to 1965, carriers were completely free to enter into
and exit from service within this one highly populated area of the United States.
However, there are some limitations on generalizing too much from this ex-
perience. The area is limited geographically. The weather conditions, the mileages
involved, and the high population density of the principal cities served, namely
Los Angeles, San Francisco and San Diego, present ideal operating
circumstances.
The only other experiences with open entry are the pre-1938 era on a national
basis and the air-taxi situation. Prior to 1938, there was no national regulation
on entry or exit. At the time regulation was instituted, the carriers were in finan-
cial diflScu'ty, and safety problems existed. One significant purpose of federal
regulation was to provide route security in order to bring about greater finnncial
stability in the air carrier industry. But commercial aviation was in its infancy.
Certainly, it is fair to conclude from the circumstances that existed during this
era that : 1) the lack of route regulation could not be said to have been beneficial,
and 2) the lack of safety regulation was detrimental.
The air-taxi situation today indicates that large numbers of smaller opera-
tors will enter the air transportation industry if permitted to do so. They can
serve in special market situations. But, they evidence a considerable lack of
economic stability. As the United States Court of Appeals noted in Hughes
Air Corporation v. CAB. 492 F.2d 567. 577, (D.C. Cir. 1973) :
"In fiscal 1970 the entire commuter industry, numbering 126 firms, generated
total estimated revenues of $70 million, or an average of $550,000 per firm. A
1970 study done for the Department of Transportation found that the commuter
industry as a whole has been operating at a loss, with individual firms' per-
formances ranging from substantial losses to only slight profitability. The failure
rate among commuters is quite high and old firms leave and new ones enter the
industry regularly.'' (Emphasis supplied.)
Some air taxi operators who have achieved stability did so either by concen-
trating in high-density vacation markets or by tying themselves to a certificated
carrier through a commuter "feeder" agreement which passes on the route secu-
rity enjoyed by the certificated carrier.
The Texas intrastate situation is of little relevance, since the sole intrastate
carrier is regulated by the Texas Aeronautics Commission. Southwest Airlines
now operates an intrastate monopoly, similar to the monopoly intrastate routes
in California.
2. California Intrastate Service 1946-1965. — Set forth in appendixes A through
C is the information on the California intrastate carriers operating during the
20-year-period of free entry, the cities served and the period of service both by
carrier and service. The information is obtained from Professor Jordan's book.
When this information is displayed, cert&in conclusions emerge :
First, while 16 carriers entered during this period. 14 of them exited. In
essence, there was an 87 percent failure rate. There was little or no head-to-head
competition at any time during the 20 years. One of the two surviving carriers
provided only a specialized Saturday and Sunday service to Brown Field, a
secondary airport 20 miles south of San Diego, on the Mexican border. This
operation was conducted for the purpose of carryincr passengers to and from the
Caliente Racetrack on package deals for the operators of the racetrack. As far as
truly scheduled service between the major California markets is concerned, the
period of free entry produced a single carrier monopolizing all of the California
markets. That single carrier had evolved as the only such carrier by February,
1965, eight months prior to the legislation.
Second, most of the carriers lasted only a short period of timf. Nine carriers,
or 56 percent of the entrants, stayed in business for periods of less than 1 year.
Seven lasted 6 months or less, and the other two lasted only 7 and 9 months. Of
the remaining 7 carriers which lasted more than a year, 5 lasted less than 2
years.
590
Third, the carriers came into existence in two clusters. Eight came into exist-
ence in the 1-year period January 1949 to January 1950. Six had failed by May
1950. Another six came into existence during the period May Ji>02 to September
1964. All went out of existence by the mid-sixties. The entry of these carriers was
not related to any pressing public demand for intrastate air transportation, but
to the sudden, easy availability of excess aircraft.
During the late-forties, cheap, used military aircraft became available. Virtu-
ally all of the intrastate carriers that came into existence in the 1949-1950 pe-
riod (six out of eight) were offshoots of .supplemental air carriers operating used
military equipment out of their bases at Burbank and Oakland. The following is
a list of those relationships :
Intrastate carrier Supplemental carrier tie-in
California Central Airlines Airline Transport Carrier.
Robin Airways Robin Airlines.
California Skycoach Trans-American Airways.
California Arrow Arrow Airways.
California Pacific Airlines Mercer.
California Coastal Airlines Airline Transport Carriers.
In addition, Western Air Lines of California leased its aircraft from AVestern
Airlines. Even PSA was not wholly independent. It was an offshoot of the
Friedkin School of Aeronautics.
Similarly, the six airlines that came into existence in the 1962-1964 period
did so as a result of a new influx of u>ed aircraft into the market which had
been replaced by the jets. As trunklines moved to jets, a surplus of conventional,
propeller-driven aircraft was created.
Fourth, the number of cities of California served by the intrastate carriers
was limited. The principal cities were Los Angeles, with its satellite airports of
Burbank and Long Beach ; San Francisco, with its .satellite airports of Oakland
and San Jose ; and San Diego. These are extremely high-density markets, includ-
ing the largest air transportation market in the world (San Francisco-Los An-
geles). The other cities served were the state capital, Sacramento, and the cities
of Lake Tahoe, Fresno, Palm Springs, Bakersfield, Modesto, Stockton, and
Van Nuys.
Fifth, the service at most of the few cities involved in the intrastate carrier
activity received only sporadic service, and for very limited periods. Only the
three major cities received any significant level of service during the entire
20-year period. The Los Angeles area received intrastate service during most
of the period at the Burbank airport, but the service at the main airport was
erratic (from 1950 to 1965 with some interruptions in 1955 and 1957) and at Long
Beach was very limited (1949 and 1953-1954). The San Francisco area received
intrastate service during most of the period at the Oakland and San Francisco
International Airports, but the service at San Jose was very limited (1962 to
1965). The service at San Diego was continuous from 1949 to 1965. Sacramento,
the state capital, received very little service (1946-1947, 1949, 1962). The other
cities received even less service. Lake Tahoe received service for 21 1/^ months,
or about 9.2 percent of the time. Fresno, California received service for dVz
months in the aggregate by 3 separate carriers or about 3 percent of the time,
71/2 months in 1946-1947, 1 month in 1949, and 1 month in 1962. Palm Springs
received service for 4^/^ months or about 2 percent of the time. Bakersfield received
service for 1 month or one-half of 1 percent of the time. Modesto received service
for 1 month. Stockton received service for 3^/^ months. Van Nuys received service
for 19 days.
Thus, the public in California had little by way of intrastate service during
this 20-year period. The public did receive the benefits of lower fares in the high-
density San Francisco-Los Angeles-San Diego markets. But, they received very
little service in any other markets. And, during this period, they paid a significant
price in the disruption caused by a large number of local air carriers going out of
business. People were stranded in the midst of trips, as carriers went bankrupt
without prior notice to the traveling public.
Sixth, none of the intrastate carriers provided an integrated pattern of service.
Most of the service was conducted between two pair of points. No connections or
interline reservations were made. These services were point-to point operations
provided by individual carriers, totally divorced from the operations of other car-
riers. That situation prevails in California today. There is no effort by either of
591
the present two intrastate carriers to provide an integrated pattern of service
between a series of marlcets. This is wholly unlike the integrated system opera-
tions of the federally-certificated air carriers and their concern with connections
and reservations on other carriers, v.hith results in an overall integated national
pattern of air service.
In conclusion, very little can be said about the number of air carriers that would
come into existence in an open entry situation. Most of the intrastate carriers en-
tered at a time when inexpensive, surplus aircraft had become available. That
experience may or nmy noc oe repeated. What can be concluded from this ex-
perience, however, is that if 200-3U0 air carriers were to come into existence, as
Professor Jordan projects, they would do so on a scattered basis, unrelated to
pressing market needs. Rather, their entry vvouid oe concentrated during periods
when used equipment is available. The other conclusion that can be reached is
that most of tae carriers would quickly fail and exit from the field of air transpor-
tation.
Piofessor Jordan's conclusion that the situation would stabilize after 10 years
is wholly unsupported by the Caliiorinia intrastate experience. Events were in as
chaotic a state, in terms of carrier stability, 20 years after the period of entry
began as they were at the beginning. In the early .sixties, 15 years after the intra-
state industry began, six new carriers came into existence. Five folded up in
periods ranging from 2 months to 2% years, and the sixth provided only weekend
service to a racetrack for horseracing enthusiasts. And it must be emphasized
that California presents an ideal situation for airline service. If California air
service remained in a state of chaos for 20 years, the country as a whole could
expect a far worse period of instability.
3. Regulation by the California Public Utilities Commis.sion. — The California
PUC began to regulate entry in September 1965. It did so for two principal rea-
sons. First, there was a public outcry for an end to the uncertainty and chaos
resulting from the free entry and exit of the intrastate air carriers. The chaotic
situation that had occurred in 1949 and 1950, when six out of eight new carriers
failed in approximately one year or less, reoccurred during the period 19G2 to
1965. Another six carriers entered into business and five folded. People were left
stranded in the midst of trips*, and had no assurance of receiving reliable air serv-
ice, xhe resulting public outcry forced the California PUC and the State Legis-
lature to consider action to get the situation under control.
The second factor was the plea for route security by the one carrier that had
succeeded over the entire iieriod, namely PSA. I'SA wanted to upgrade its iOeet
from Electras to 727s and expand its oi^erations. PSA's management believed it
could not obtain the necessary financing without the security of a certificate.
Since the I'UC entered the' picture, it has given great protection to the regu-
lated carriers. Each has been given monopoly intrastate routes (appendix E). No
competitive authority has been authorized, despite carrier efforts to overlay one
another. Where dual authority is involved, one or the other carrier is not per-
mitted to carry traffic.
PSA remained as the strongest intrastate carrier and began to expand from
the primary markets of San Francisco-Oakland-Los Angeles-San Diego, which
were the oiily markets served by PSA during the period of free entry into some
secondary markets. ( See appendix D. ) Air California entered business in Janu-
ary 16, 1967, serving the Santa Ana-San Francisco market exclusively. It later
expanded to a number of other major monopoly routes. (See api>endix E.) The
only other entrant was Holiday Airlines that specialized in serving Lake Tahoe.
It went bankrupt earlier this year.
Rates have increased under the PUC's regulations. But, a slightly broader
pattern of -issured intrastate service has emerged as well.
If. Conclusion from the California Situation.— It we project the California
intrastate situation to the national scale, what emerges as reasonable conclu. ions
are the following: -, , , ^
( 1 ) The number of entrants may be substantial. Professor Jordan s figure
of 200-300 may be reasonable, although it will depend more on availability
of excess, used equip"!ent th.nn on market demand.
(2) Most of the carriers will go out of busine.ss over periods of 2 years or
less, with the majority folding in 6 months. .^ ^, .
(3) At most, a few carrires will survive and they will tend to limit their
activities to the densest markets. .
Free entrv wou^d certainly lead to the rapid destruction of the present air
transportation network, with smaller cities receiving little if any .service. The
592
large number of entrants may drive fares down temporarily, but they will enter
sporadically, with most exiting rapidly. The public will be left with great uncer-
tainty over the availability of air service by an existing carrier or air service in
any given market. Ihis is the most that can be coiiciudeu from the zo years of
California intrastate experience.
5. Other Problems of Free Entry. — There are two other aspects of the free
entry concept that were not discussed by the advocates of this system. This is
the added aistortion resulting from protected international operations at one end
of the spectrum, and protected instrastate operations at the other end of the
spectrum. Both act as a bar to the evolution of any true free entry and exit sys-
tem and would seriously distort the air transportation system resulting from
applying the theory of free entry and exit.
If entry to international markets is to be controlled, yet free entry is to be
permitted in domestic markets, two distortions would occur. First, carriers with
strong international routes would have a substantial competitive advantage
which could and undoubtedly would be used to improve their economic position
to the detriment of carriers without such protected routes. In general, interna-
tional routes have been more profitable than domestic routes. This is shown by
appendix F. Thus, a carrier with such a route would have an unfair competitive
advantage in relation to carriers without such routes, particularly under cir-
cumstances in which all of their markets are subject to free entry. Second, car-
riers with international routes would tend to direct their domestic operations
to those routes that flow into their international operations. In this manner, they
would achieve a further advantage over competitiors in the domestic markets.
Tliey would be feeding traffic moving over the international leg of a journey to
and from interior points over domestic operations. The protection of their
international operations would be extended in a very real sense to most if not
all of their domestic operations. Even aside from the unfair competitive advan-
tage the carrier with international routes could thus achieve over certain do-
mestic routes, the markets these stronger carriers would tend to serve would
have little to do with domestic air transportation needs of the public. The
markets served would be those best suited to international travel, and the serv-
ices would be so geared.
At the other end of the spectrum, the air transportation system would be
distorted by protective action by state aeronautic boards and public utility com-
missions. As experience has demonstrated in California and Texas, state officials
will regulate to protect intrastate carriers. If they continue to do so under a
national system of open entry and exit, new carriers will be attracted to serve
protected "intrastate markets rather than unprotected interstate markets. This
would ultimately lead to the formation of regulatory commissions in each state
and the complications inherent in 40 or more regulatory bodies each exercising
independent control.
6. Continental's Position.— As Continental has made clear in its testimony
before the subcommittee, we do not oppose new entrants to the federally-regulated
air transportation industry. In fact, we believe that new entrants maintain
vitality in the industry. They bring innovation, which means public benefits.
Moreover, the mere threat of new entrants being permitted into the industry
spurs the incumbents to better serve the public. It is for this reason that we
have urged that the Board have a more open mind "than it has shown in the past
to consider the applications of new entrants.
At the same time, we believe that the incumbent carriers must continue to
have opportunity to expand both into domestic and into international markets.
Such expansion means a higher level of competition with its resulting benefits
in improved service, and lower fares. In addition, so long as the air carriers are
given new opportunities, and performance is a significant factor in awarding
new route opportunitties, the carriers will be spurred to better serve both their
existing and their new markets.
We believe that the combination of considering new entrants and expanding
the authority of the encumbents will provide the benefits of competition being
sought. The public will be assured as complete and effective a system of air trans-
portation as is economically feasible by the continuation of the present system of
individual carriers being assigned responsibility to provide service over given
air routes. The chaos and uncertainty that marked the California intrastate
situation up to 1965 and that marks the air taxi situation today will be avoided.
593
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598
PACIFIC SOUTHWEST AIRLINES
ROUTE STRUCTURE - June 1965
Los Angeles
International Airport
SonFroncisco
International Airport '
Oakland International Airport
^--O Hollywood/Burbank Airport
San Diego
International Airport
PSA- June 1965
Mercer- June 1965 (Sot, Sun only)
599
Appendix E
AIR CALIFORNIA and PACIFIC SOUTHWEST AIRLINES
ROUTE STRUCTURE - PRESENT ROUTES ONLY
SonFroncisco
InternationolAiri
San Jose
Municipal Airport
Hollywood/Burbank Airport
Los Angeles
International Airport
■Vv»*-0 Stockton Metropolitan Airport
Oakland International Airport
Palm Springs
Onta'rio International Airport
I San Diego
Internotionol Airport
PRESENT ROUTES:
Air Cal
PSA
NOTE: Ttie following outhorities ore "closed door"
authorities in which origin -destination passengers
may not be transported:
AIR CALIFORNIA
1 . Ooklond - San Franciso
2. Oakland-Son Jose
3. San Francisco- San Jose
4. San Francisco- Ontario
PSA
1. Ooklond -Son Jose
600
Appendix F
RELATIONSHIP OF INTERNATIONAL TO SYSTEM
REVENUES AND PROFIT-SELECTED TRUNKS
Dollars in Thousands
BRANIFF: Revenues
Operating Profit
New Profit
NATIONAL: Revenues
Operating Profit
Net Profit
NORTHWEST: Revenues
Operating Profit
Net Profit
WESTERN: Revenues
Operating Profit
Net Profit
System
International
% International
428.1
104.8
24.5%
41.4
17.6
42.5
23.4
12.2
52.1
413.8
22.6
5.5
50.6
5.7
11.3
20.6
2.3
11.2
584.6
157.3
26.9
49.5
17.7
35.8
51.1
20.8
40.4
414.7
32.1
7.7
40.1
7.0
17.5
20.4
3.5
17.2
CAB Interim Financial Statement
601
Supplementary Testimony of William A. Jordan
April 21, 1975
AIRLINE deregulation : CHAOS IN THE EYES OF THE BEHOLDER
Introduction
Mr. James L. Mitchell, vice president of regulatory proceedings of Continental
Air Lines, has presented a supplementary statement ' discussing some of the
points covered in my testimony to this subcommittee on February 14, 1975.^ The
thrust of his statement is that the relatively unregulated experience within Cali-
fornia prior to 1965 indicates that chaos, uncertainty and instability would exist
in scheduled air transportation without Civil Aeronautics Board (CAB) regu-
lation, all to the detriment of the public. The conditions to be faced without
CAB regulation may well appear chaotic and detrimental to the established mem-
bers of the regulated airline industry, but it is unlikely that this viewpoint would
be shared by consumers of air transportation.
Many important services in North America are amply provided by the open-
entry, private-property system without the assistance of government regulation.
For example, an airline passenger arriving at most airports can rely upon finding
unregulated car-rental services available. In fact he can often choose between
making an advance reservation with a national car-rental firm or turning to the
yellow pages of the phonebook upon arrival to obtain the lower-priced services of
various "cutthroat" competitors. He can then drive his rented full-size Chev-
rolet with air-conditioner (or his Volkswagen) to the local member of a large
unregu ated h'>te^ (h;iiu win e hr ha< foMlnnu'd reservations, or he can search
out some small motel that competes "unfairly" with the hotel chain by charging
lower prices. Finally, he can enjoy «n elegant dinner in an unregulated (except
for a liquor license) restaurant, or he can survive on a more modest meal at the
cafe he noticed while driving in from the airport. All these services are important
to the tiav( >••. be n-'icw u]H>n their bei^'^: avai'ab'e and seldom is he disappointed
even though they are not regulated. The suppliers of these services may find
the market conditions to be "chaotic," but that is not the perception of the con-
sumer. The cafe may be under new management and the hotel may have just
been merged into another parent company, but the traveler's eating and sleeping
will be little affected by these changes in supply factors.
While all of the above services, and others, are supplied without benefit of
direct economic regulation, the interstate traveler's fiight to his destination is
on an airline that is heavily regulated. Is there something about air transporta-
tion that makes economic regulation necessary to prevent chaos and to ensure
its reliable provi'-ionV On the one hand. Mr. Mi*^'"hell and other experienced
members of the CAB-regulated airline industry believe this to be the case. On
the other hand, some observers of airline operations have been led to the opposite
conclusion by the history of the relatively unregulated California intrastate
carriers, supported by still o^^hpr evidf>ncp from thf> Texas intrastate experience,
from U.S. military airlift procurement, from the operations of unregulated com-
muter airlines, and from regulated airline performance in Canada. Is it possible
that the predicted chaos largely exists in the eyes of the members of the regulated
airline industry? The following supplementary testimony will analyze Mr.
Mitchell's statement and, in the process, will indicate how perceptions of eco-
nomic chaos are greatly influenced by one's point of view.
PASSENGER BENEFITS AND NUMBER OF AIRLINES IN EXISTENCE
Mr. Mitchell states that my principal conclusions from the California intra-
state experience are that: "(1) the intrastate service pattern produced far
healthier results for the traveling public than did the regulated U.S. domestic
industry, (2) absent regulation, there would be 200-300 air carriers in the United
States, and fares would be lower, and (3) the period of 'adjustment' after the
institution of free entry and exit would be in the order of 10 years." ^ It happens
that this is only a partial summary of my conclusions and two points are some-
what inaccurate. First, my testimony contained no mention of "healthier results
1 James L. Mitchell, "Supplementary Stntement," Subcommittee on Administrative
Practice and Procednre. Committee on the Judiciary. U.S. Senate (n.d. : processed).
2 William A Jordan "Results of Civil Aoronautics P,oard Resrulntion." Testimony Before
the Subcommittee on Administrative Practice and Procedure, Committee on the Judiciary,
U.S. Senate (Feb. 14. 1975: orocessed).
3 James L. Mitchell, supra, note 1, at 4.
€02
for the traveling public," and, second, the 200-300 air carrier estimate is inflated
by about 100 airiiiies and tiiere is « conceptual problem wiLli Mi: Mitcbell's
analysis of this estimate.
My conclusions about the efliects of CAB regulation on passengers were as
follows :
Passengers who value high-quality airline service relatively more than
other goods and passengers who do not pay for their air travel, have also
benetiied from the high-quality service flowing from CAB regulation. Pas-
sengers who, in contrast, prefer low-price and somewhat lower-quality serv-
ice have been harmed, either by having to pay higher prices for airline
services or by using less preferred means of travel, or by not taveling at all.
Also harmed through having to pay higher prices or higher taxes are the
many consumers of goods and services produced by firms or government
agencies utlizing air transportation in their production and/or distribution
activities.*
Overall, if "health" refers to economic benefits, I conclude that CAB regulation
has increased the health of some passengers while without CAB regulation the
health of a larger number (but not all) passengers and many consumers would
have been significantly improved over what they actually experienced.
My statement regarding the number of airlines in existence at various times
in the absence of CAB regulation was :
Based on the system sizes and traffic volumes of the California intrastate
carriers, it appears that without CAB regulation from 100 to over 200 air-
lines operating large aircraft would have existed at any one time in the 48
contiguous states from 1940 through 1965. (Emphasis added. )^
The important point is not whether the range of unregulated airlines in existence
extends from 100 to over 200 or from 200 to 600. What is imporiant is whether or
not there would have been several times 'nore scheduled airlines in existence at
any one time without CAB regulation than the 35 to 24 trunk and local service
carriers that CAB actually allowed to operate between 1949 and 1965, and the
implications this has regarding the dispersion of airline services over the country
in the absence of regulation. Due to some confusion over concepts, Mr. Mitchell
failed to come to grips with the evidence pertaining to this matter.
Mr. Mitchell's analysis of the California experience on pp. 6-11 of his statement
concluded that ". . . very little can be said about the number of air carriers that
would come into existence in an open entry situation," and "(w)hat can be
concluded from this experience, however, is that if 200-300 air carriers were to
come into existence . . . they would do so on a scattered basis. . . ."" It happens
that his analysis was based on the information given in my book in the section
entitled "Intrastate Carrier Entry and Exit." ' This section demonstrated that
CAB regulation has significantly limited both entry into and exit from the
industry. But the following section, entitled "Number of Airlines in Existence,"
pointed" out that the flow of airlines into and out of the industry cannot be used
to estimate the stock of airlines in existence at various points in time,* just as the
annual earnings statement of a firm cannot be used to derive its end-of-year
balance sheet. My estimate of 100 to over 200 airlines in existence at any point
in time from 1949 through 1965 was made in that latter section and was based
on system sizes and trafl!ic volumes. Since Mr. ]\Iitchell made no reference to that
analysis in his statement, there is nothing to cause me to change my evaluation of
the evidence. Thus, the estimated number of airlines in existence, together with
other evidence to be outlined below, still imply that airline services would not
have been provided on a "scattered basis" in the absence of CAB regulation.
AIRLINE FAIL! RE AND COVERAGE
When describing the high failure rate and lack of coverage of the California
intrastate carriers during the 1946-65 period of open entry, Mr. Mitchell chooses
to analyze the California experience only in terms of the intrastate carriers. This
is exemplified by the major title of appendixes A, B and C of his statement, to
wit: California Intrastate Air Service. To be accurate, this title should have
* William A. Jordan, supra, note 2. at 4r>-46. Also, William A. Jordan, Airline Regula-
tion in America : Effects and Imperfections, 227 (1970).
5 Id. at 6. Also. William A. Jordan, supra, note 4. at 24-32.
" James L. Mitchell, supra, note 1, at 10-11.
' William A. Jordan, supra, note 4, at 17-24.
8 Id. at 24-32.
read : California Air Service by Intrastate Carriers. The change in wording is
small, but the change in meaning is important.
Considering only intrastate carrier service ignores the fact that other airlines
also provided service within the state. In l'J4t>, when the first major wave of
intrastate entry occurred, the managers of every potential intrastate carrier had
to face the reality that California was already blanketed by airline service au-
thorized and subsidized by tlie Federal Government. As at March 31, 19'^9,
American, TWA, United and Western were authorized to serve 22 airports, while
Southwest Airways (the original name of Pacific Air Lines, now a part of
Hughes Airwest) was authorized to provide local service at 24 California air-
ports." Combined, the.se five CAB-regulated airlines served 38 unduplicated air-
ports throughout the populated portions of the state. It was against the estab-
lished .services of these sul)sidized carriers (who were also allowed to carry U.S.
mail) that the intrastate carriers sought to introduce service within the confines
of California. Then, even more than now, traffic between many city-pairs was so
limited that it would support only one carrier. Since most of the .smaller city
pairs in California were already served Ijy a subsidized carrier and since adja-
cent interstate points such as Tucson, Phoenix, Las Vegas and Reno could not be
served, it is evident that the California intrastate carriei-s laced seririus restric-
tions on the demand for their .services and on opportunities to utilize their air-
craft efficiently.
Given all the above, the .surprising thing is not that such a high proportion of
intrastate carriers failed, but that a few did manage to survive. Certainly they
emphasized the high-density city-pairs. Surely one is not going to risk his wealth
in serving such monopoly points at Bakersfield. Stockton and i^ureka when a
subsidized airline was already providing service between tho.se cities. Certainly
they began .service through the old Lockheed Air Terminal at Burbank rather
than at the new Los Angeles International Airport. It was cheaper to operate
through Burbank and costs were crucially imiKjrtant to those early carriers
offering service at coach fares less than half the fares of the CAB-regulated
airlines. Certainly intrastate carriers entered during periods when aircraft were
relatively low priced. Mr. Mitchell refers to "free" entry. Xo economic activity
is free. Open entry (referring to the lack of legal/regulatory barriers) is the
correct terminology and, when legally possible, more entry occurs when entry
eo.sts are low than when they are high. Overall, the intrastate carriers were play-
ing the economic game constrained by the CAB's rules, and those rules were
biased against them.
Appendixes B and C of Mr. Mitchell's statement contain the dates of service
at most, but not all, of the California airports served by the sixteen intra.state
carriers. These appendixes emphasize the .sporadic coverage of these carriers
from 1046 to lOOo as they sought to establish themselves despite the rivalry of
the entrenched CAB-regulated airlines. Also shown, but not emphasized by these
appendixes, is the fact that low-fare services were offered continuously by one
or more intrastate carriers in the San Francisco and Los Angeles areas and in
San Diego throughout the i>eriod from 104JJ to lf>65 and beyond. True, a
pa.ssenger might have had to utilize Burbank rather than Los Angeles Interna-
tional at various time.s, but he did have intra.state-carrier service available at
each major population c-enter. The.se appendixes al.so fail to show that the intra-
state carriers offered the first or only .single-plane .service to Inyokern, Ed-
wards AFB, Brown Field, Lake Tahoe and, recently, Mammouth.'" The CAB-
regulated airlines did overlook some small points within California and the
intrastate carriers moved in if there was an exi^ectation of profitable unsub.si-
dized operations.
With regards to the CAB-regulated airlines, Mr. Mitchell's bar diagrams do not
depict such things as United's suspension of all sert-ice at Burbank in April 19(51
and at Long Beach in October 1962, and Western's suspensions at the.se points in
September 1962 and October 1973, respectively." Also, they do not mention the
fact that the CAB-regulated trunk carriers concentrated their services at the Los
Angeles and San Francisco International airports and essentially ignored the
"'AH. Tnltpd States .Air Transnortation Svstptn. Roufps Pprman*>ntlv CprtlfioatPrl Mar.
31, 1949. anr] Limitpfl-Ppriofl anrl Plfkiip Routps Cprtlfimtprl. AInr. .31. 1949.
'"William A. .Jordan, supra, notp 4, at ^^~>-?,?, and 2.58-0.3. Also. California Public
Utilitlps Commission (PUC) dpcisions 7.5.37.'i (F.'b. 2.5, 1969). and 79100 (Sept. 21, 1971).
"William A. .Jordan, supra, note 4 at 277. Al.so, CAB orders E-18819 (Sept. 24, 1902),
and 7.3-9-72 (Sept. 18, 197.3).
604
airport at Ontario, Santa Ana, Oakland and San Jose until Pacific Southwest
Airlines (PSA) and Air California demonstrated the traflic generating capabil-
ities of those satellite airports during the late sixties. As importantly, these ap-
pendices fail to indicate qualitative aspects of service. For example, they do not
show that Pacific's regulated service at San Jose generated a maximum of only
73,000 annual online origin and destination passengers to and from Los Angeles
throughout the many years Pacific provided the only single-plane service in this
city-pair, while during its first full year of oi)eration in this city pair (1967),
PSA carried 557,000 O&D pas.sengers." Finally, these diagrams do not show
such things as the California Public Utilities Commission (PUC) decision that
ordered Western to remove the discrimination in the fares it offered at Oakland
and Long Beach relative to San Francisco and Los Angeles."
Mr. Mitchell mentioned that he interested Continental in serving the Los An-
geles and San Francisco satellite airports after he joined that company in Sep-
tember 1968. He states that "Continental began operations at Ontario in con-
nection with its Chicago-Kansas City-Denver-Los Angeles route, and later was
authorized to provide service between the Pacific Northwest terminals of Seattle
and Portland and all the satellite airports. . . ." " Of course, authorizations are
one thing, actual service another. The OflBcial Airline Guide shows that, during
this past March, Continental provided no service whatsoever to half the satellite
airports (Long Beach, Santa Ana and Oakland), and that is operated only a
single daily round trip between Ontario and Chicago/Denver (but not to Kansas
City), about l^/^ daily round trips between Ontario/Burbank and San Jose, and
3 to SV2 daily round trips between Ontario/Burbank/San Jose and Seattle/
Portland.^® In total, it provided six daily departures at Burbank, just over seven
at San Jose and eight at Ontario. This is in sharp contrast to the multiple, daily
frequencies provided by Air California and/or PSA at all six satellite airports.^"
Actually, it is misleading to emphasize the negative aspects of airline service
within California. Overall, the rivalry between individual carriers, regardle.ss
of their regulatory classification, has resulted in an outstanding coverage and
quality of service being provided by all airlines as a group. As far as the con-
sumer is concerned it is this overall level of service that counts, and the airline
consumer has been amply blessed in California. In addition, wherever intrastate
carriers have operated the consumer has also enjoyed fares appreciably lower
than those which would otherwise have been authorized by the CAB."
THE ROLE OF DEMAND
Mr. Mitchell asserts that without regulation airline entry and exit "would have
little to do with public need for service," would be "unrelated to pressing market
needs," and would "depend more on availability of excess, used equipment than
on market demand." " The terms "public need," "market needs," and "market
demand" are not defined, but it appears that they are synonymous and that they
refer to the economic concept of demand.
An assertion that unregulated airlines would place little importance on the
demand for their services when considering entry or exit would be surprising
were it not consi-stent with the CAR's great emphasis on supply considerations
when setting its "cost-based" fares.^" This common practice of regulators is in-
consistent with economic reality and, certainly since the publication of Alfred
Marshall's Principles of Economics in 1890, economic theory has recognized that
the viability of an enterprise in an open market depends both upon the costs of
providing a good/service and on there being adequate demand for that good/
service. It is the "sci.s.sors of supply and demand" that define economic viability
and equilibrium prices. By and large, the California experience indicates that
demand would not be ignored by unregulated air carriers when they sought to
enter new markets, nor would they ignore the costs of operations.
12 William A. Jordan, supra, note 4, at 129-30. Also. PUC. Transportation Division,
Traffic Data, exhibit submitted In application 52970, sheet 5 (Feb. 11, 1972).
"PUC decision 07077 (Apr. 7. 1964).
1* James L. Mitchell, supra, note 1. at 3.
IS 1 Official Airline Guide (North American edition, Mar. 1, 1975).
i«Id.
" William A. Jordan, supra, note 4, at 113-14 and 131-33.
18. Tames L. Mitchell, supra, note 1. at 4. 11 and 13, respectively,
lo William A. Jordan, supra, note 2, at 28-29.
605
Mr. Mitchell feels that the recent experience of the air-taxi/commuter airlines
is evidence of "a considerable lack of economic stability," -" and he quotes a U.S.
Court of Appeals decision to support his belief. This subcommittee has been given
a statement on this point with a different conclusion.
The proponents of entry and exit regulation in that case (the New England
Service Investigation) argued, and the Board agreed, that there is a public
interest in "continuity of service" which requires .some entry and exit regu-
lation. We question this result, in view of the Administrative Law Judge's
uncontroverted finding that although commuter carriers had entered and
exited several New England markets, there had been no significant lapses of
service to the public because of this turnover. (Footnotes omitted.)^
The difference is one of viewpoint. From the airline point of view there certainly
is instability with open entry and exit. Many airlines enter and a large number of
these exit. From the passenger viewpoint, however, service is quite stable, even
during periods when a relatively young industry is testing and developing
markets.
Mr. Mitchell notes that "[s]ome air taxi operators who have achieved stability
did .so either by concentrating in high density vacation markets or by tying them-
selves to a certificated carrier through a connnuter 'feeder' agreement. . . ." "^
Unfortunately, he fails to .specify the numbers of air-taxi operators in each of
these two categories, nor does he give the number of operators who have found
stability in other circumstances.
A CAB study of the commuter air carriers for the year ended June 30, 1973,
reported 201 such carriers filing required reports for one or more quarters, with
126 doing so for the entire year.^ Of the 201 carriers, 151 provided pas^:enger
service and accounted for 549 million revenue passenger-miles (RPM), which was
0.45 percent of the total 122,009 million RPM carried by the domestic trunk, local
service and commuter carriers combined."* This left the trunk and local .service
carriers with 99.55 percent of total KP:M. If less than one-half of 1 percent of
total RPM can support 100 or more carriers operating small aircraft having 19
seats or less, there is nothing surprising about 221 times that traffic supiwrting
well over 100 airlines operating large aircraft with 50 to 400 seats, especially
since California (and the Texas) experience provides evidence that full econo-
mies of scale can be achieved with around five aircraft of a type suited to the
carrier's routes and traffic densities.^ Furthermore, with this much larger demand
service would be even more stable for the passenger than what they have already
obtained from the constrained commuter carriers.
FINANCIAL AND SAFETY PROBLEMS IN THE THIRTIES
Referring to the pre-1938 era, Mr. Mitchell notes that the carriers of that period
were "in financial difficulty, and safety problems existed." '" He does not mention
that many industries had financial difficulties during the Great Depression and
that the domestic airlines were a growth industry even during that iieriod. Be-
tween 1930 and 1938 their RPM grew by 404 percent and pas.senger revenues
increased by 242 percent (in a period of deflation), while mail revenue ton-miles
expanded by 203 percent from 1934 to 1938."
Safety then was certainly a greater problem than it is today, but airline,
aircraft and air traffic control technologies in the thirties were rudimentary com-
pared with the present time. As stated in my testimony, the evidence is unclear
regarding whether or not economic regulation by the CAB (as distinct from direct
operational regulation by the Federal Aviation Administration) improves airline
safety."^ Even comparing passenger fatalities per 100 million RPINI may be mis-
2" James L. Mitchell, supra, note 1, at 5. . , . . ^ ^,
21 Thomas E. Kan per, "Testimony Before the Senate Subcommittee on Administrative
Practice and Procedure Concerning Airline Regulation by the Civil Aeronautics Board,"
21-22 (Feb. 6. 197.5 ; processed).
^- James L. Mitchell, si.pra. note 1, at 6. „,,„/-,
23 CAB, "Commuter Air Carrier Traffic Statistics, Year Ended June 30, 1973,' 3 (June
1974 ; processed).
2* Id. at 1 and 14. Also, CAB, Air Carrier Traffic Statistics, 2 and 4 (June 1973).
2= William A. Jordan, supra, note 4, at 191-94.
2« James L. Mitchell, supra, note 1, at 5.
2T CAB Handboolc of Airline htati.stics, 23, 48 and 79 (1973 ed.).
28 William A. Jordan, supra, note 2, at 43-45.
606
leading. For example, to the extent higher fares resulting from CAB regulation
have caused travelers to substitute more dangerous automobile travel for safer
air travel the overall safety of the total traveling public has been decreased
by CAB regulation, assuming airline safety standards would be maintained
with larger traffic volumes. The question of safety is very complex and many
factors must be considered explicitly or held constant, especially when making
comparisons between different historical periods.
INTEGRATED SERVICES
Mr. Mitchell's statement regarding the lack of "an integrated pattern of serv-
ice" by the intrastate carriers is surprising.^' The route maps given in his ap-
pendix E show that the services of Air California and PSA are close substitutes
for each other rather than being complementary, thereby decreasing passenger
demand for integration."" Also, he fails to point out that a California passenger
can easily obtain integrated services by going to a travel agent to purchase tickets
and having reservations made on two different intrastate carriers should his
travel plans warrant this. Finally, Mr. Mitchell has overlooked Air California and
PSA's unsuccessful efforts to obtain the necessary authorization from the CAB
to establish interline arrangements with the CAB-regulated airlines."^ If in-
creased integration is desirable, it is within the CAB's power to allow it to happen.
Much has been made of the desirability of the CAB-regulated airlines being
able to issue tickets and make reservations for each other. While this is con-
venient for some, it has resulted in other passengers having to experience long
and impatient delays at ticket counters while agents make reservations and issue
multicarrier tickets for other passengers. My own travel experience has shown
that it is very easy to fly to Los Angeles on American, United or Air Canada and
then make reservations and purchase tickets for travel within California on
PSA or Air California, especially with the widespread acceptance of credit cards.
Each carrier sells a simple one- or two-coupon ticket. The only difference is that
in Toronto the ticket may be written out by hand in considerable detail, while
in Los Angeles it is issued more quickly as a cash-register receipt. I happen to
Drefer the speed of the latter method.
RELEVANCE OF THE CALIFORNIA EXPERIENCE
Mr. Mitchell, in common with other industry spokesmen, warns against general-
izing too much from the California experience. "The area is limited geographi-
cally. The weather conditions, the mileages involved, and the high population
density of the principal cities served . . . present ideal operating circum-
stances." ^ Aside from occasional dense fogs at most airports and the heavy snow
falls at Lake Tahoe and Mammouth, weather conditions in California are good,
but so are weather conditions all across the southern U.S. The population densities
of the principal cities are not unique; they are duplicated in many other cities in
the nation. Finally, the mileages involved are far from ideal. The fact is that
California is a relatively constrained geographic and economic area and this has
served to harm the intrastate carriers that sought to survive under open entry.
During 20 years of experience in CAB regulatory activities and related re-
search, this is' the first time I have ever heard route segments of 109, 340, or even
449 miles called "ideal." To the contrary, routes that allow nonstop flights of
1,000 miles or more are the ideal. Listening to airline spokesmen would lead one
to think the CAB had done the California intrastate carriers a tremendous favor
by not allowing them to risk introducing low-fare coach service to such cities as
Phoenix. Seattle, Denver. Dallas, Minneapolis-St. Paul, Chicago, Detroit, Atlanta,
Miami. Washington. New York, Boston and numerous large, medium and small
cities in between. As the old saying goes, "with a friend like this, who needs
enemies?" .
There are indeed limitations to generalizing from the California (and lexas)
experience, but these limitations are opposite to those indicated by airhne
».Tnnies I^. Mitchell, supra, note 1. at 10. , ^ ^ - „ t i
•■» William A. .Tordan. "Air Transportation Markets: Definitional Confusion, .Journal
of Air T>^w and Conimercp (forthcominR : nn. 18-25 of the mannscript) . ^^^^^ ., ^„ .
31 CAB orders E-IOfi.'i.^ (.Tune 10, 19fi.3) and 71-8-57 (Aue. 12. 1971). Also PSA.
"Responses to Subcommittee on Administrative Practice and Procedure, ' 16-17 (Feb. 6,
1975).
32 James L. Mitchell, supra, note 1, at 5.
607
spokesmen. With open entry nationwide, airlines could operate more efficiently
and enjoy lower operating costs than experienced in constrained intrastate areas,
demand for their services would be far greater, and there would probably be
proportionally fewer failures than what occurred within California.
Critics of the California intrastate experience also emphasize that the success-
ful carriers operated between Los Angeles and San Francisco which has the
largest passenger flow in the world. Mention is never made of the fact that this
was not the case in 1948 before the intrastate carriers introduced low-fare coach
service to that city-pair. As pointed out in my testimony, in 1948 Boston-New
York/Newark accounted for 550,000 true O&D passengers while only 297,000
such passengers flew between Los Angeles/Burbank/Long Beach and San Fran-
cisco/Oakland.'" An important reason for the large traffic densities in the pres-
ent California city pairs is the existence of low fares for long periods of time.
Had the same fares-per-mile been permitted throughout the U.S. during the past
25 years, other city-pairs would be challenging Los Angeles-San Francisco for
the distinction of being the largest in the world.
BANKRUPTCY AND THE PASSENGER
At two points in his statement Mr. Mitchell points out that passengers "paid
a significant price in the disruption caused by a large number of local air carriers
going out of business," and that "[p]eople were left stranded in the midst of
trips, and had no assurance of receiving reliable air service." ^ Surely, given
the continuing services of PSA, United, TWA, Western, Pacific and other air-
lines, it is incorrect to say that passengers had no assurance of receiving reliable
air service. Service terminations and carrier bankruptcies certainly inconven-
ienced passengers who had to make alternative air or surface travel arrange-
ments, but this inconvenience was less than that caused by a foggy night when
all airline services were suspended. In bankruptcy, the most extreme case of
service termination, the main harm suffered by passengers was that, in com-
mon with other creditors, they suffered financial losses. It is worthwhile to
investigate the likely extent of such losses.
The largest and most important airline to go bankrupt was California Central
Airlines (CCA) on February 14, 1955. California Central was the true pioneer of
low-fare coach service within California. It was the first to inaugurate such
service in 1949 and over the next six years it consistently carried more passen-
gers than any other intrastate carrier (a high of 169,000'in 1953).® Let us con-
sider the financial loss of a CCA passenger who purchased a round-trip ticket
between Burbank and San Francisco just prior to February 14, 1955. At that time
CCA's one-way fare in this city-pair for Martin 202 service was $13.50 (it was
$11.70 for DC-3 service), so a round-trip ticket cost $29.70, including the 10-
percent federal transportation tax then in effect.'* Therefore, if CCA went bank-
rupt before the outbound portion of the ticket was used the passenger lost the
full $29.70 (assuming no payments were made to general creditors when CCA's
assets were sold by the court). If, however, the passenger had flown to San
Francisco just before the bankruptcy he either lost $14.85, the extra price he had
to pay United or Western to fly him back to Burbank, or $30.90, the price charged
by PSA for this service.^ In addition, he may have had to incur such added costs
as a phone call to his wife, one or two meals, an overnight stay in San Francisco,
and a higher parking fee. Finally, he might even have had to buy a first-class
ticket on United or Western for $24.26 in order to get back in time for the lodge
meeting that night.'® Overall, our representative CCA passenger would have per-
ceived his loss to have been between $11 and, perhaps, $35 because of CCA's
bankruptcy. Certainly he would have felt aggrieved, especially since a dollar was
worth more in 1955 than it is today. But, then, he would have been similarly
aggrieved had he put a $35 down payment on a chair ordered from a furniture
store that went bankrupt before delivery of the chair. In either case he might
have written a complaint to his state legislator, but probably not.
^ William A. Jordan, .supra, note 2, at 15n.
34 .Tnnips L. Mi^^cbpll. snnra. note 1 at 10 and 12.
^ ■\Villiani A. .Jordan, .^iipra. notp 4. at 20 and 264.
Mid. at 135 and 284-87. In early 195.5. I'nited and Western, as well as CCA. operated
the niaiority of their nonstoo coach service between San Francisco and the Los Angeles
area through Burbank. PSA operated only through Burbank. 11 Official Airline Guide
(Feb. 1955).
=" Id. at l.-^S, 279-80 and 284-87.
38 Id. at 135 and 276-78.
While the above may have been the perceived loss of the CCA passenger, it
is not the full story. Had CAB regulation been able to totally prevent intrastate-
carrier service within California, one-way coach fares vvouid have been higher
than the $13.50 (or $11.70 or $9.99) that existed in this city-pair in early 19o5.
In October i958 the CAB announced a new coach fare policy in conjunction with
the short-haul coach fare case, so it is likely that by early 1955 some limited
day-coach service would have been inaugurated between Burbank and San
Francisco on long-haul flights at a one-way fare of $16.; 9 plus tax.^ Assuming
coach service as a part of long-haul flights would have been convenient for our
Burbank-San Francisco passenger, this means that he would have paid $36.94
for his round-trip ticket on a CAB-regulated airline, $7.24 more than the $29.70
he paid for his CCA ticket. Thus, this $7.24 saving due to the existence of intra-
state carriers should be deducted from the $29.(0 financial loss to obtain the
passenger's true net loss of $22.46 had CCA's bankruptcy occurred before he
began his trip.'" Similarly, $7.24 should also be deducted from the $11 to $35
estimated loss in the situation where the passenger was in San Francisco at the
time of service termination. This reduces the overall range of possible loss down
to between $3.76 and $27.76.
The above is the full story for the first-time intrastate air traveler, but not for
the person who flew on intrastate carriers between Burbank and San Francisco
at other times from 1949 to early 1955. In 1949, for example, because of CCA's
innovative efforts such a passenger was able to make his round trip for $26.43
(including the 15-percent transportation tax) compared with United or Western's
CAB-regulated charge of .$48.42— a saving of $21.99 for this single trip would
have covered most or all of his subsequent loss in 1955.''^ Similar calculations
should be made for every other trip taken at lower fares because of intrastate-
carrier service. Overall, it is clear that the maximum loss suffered by a Burbank-
San Francisco passenger due to CCA's bankruptcy was less than $30, and that
almost any passenger who made one or more round-trip flights on an intrastate
carrier between 1949 and early 1955 broke even or enjoyed a financial gain despite
his loss when CCA went bankrupt.
Mr. Mitchell reports that Holiday Airlines, the intrastate carrier connecting
Lake Tahoe with the major California cities, went bankrupt earlier this year.
He did not elaborate on what effect this has had on Holiday's service, but the
Oflicial Airline Guide reports (perhaps incorrectly) that Holiday is still operat-
ing." Maybe Holiday's current passengers will suffer losses as a result of its
bankruptcy. It should not be forgotten, however, that the first scheduled service
to Lake Tahoe was inaugurated by an intrastate carrier on May 14. 1962, and
that the first CAB-regulated airline* (Pacific/Hughes Airwest) did not begin such
service until October 27, 1963 and subsequently terminated service in May 1974.
Thus, the harm done to passengers through Holiday's bankruptcy should be
balanced by the benefits received by the same and other passengers through the
earlier service inauguration and the continuation of service after Hughes Air-
west's withdrawal.
MONOPOLY IN CALIFORNIA?
Was there an airline monopoly in California? Mr. Mitchell states that by 1965
the period of open entrv in California "produced a single carrier monopolizing
all of the (major) California markets."" He fails to mention that at that time,
in addition to PSA. service was provided in major California city-pairs by
American, Delta, National. TWA. United, Western and the three predecessors of
Hughes Airwest (Bonanza, Pacific and West Coast). This was hardly a monopoly
situation. , . ,,
While Mr. Mitchell correctly points out that entry was no longer fully open
after September 1965. he makes little mention of the information given in my
testimony that it was not until 1969 that the PUC actually closed entry to new
intrastate carriers operating large aircraft. During tho.se four intervening years
« In' otVe?''w^or^dl% one'has to compare the passenger's outlay of $29 70 for the unused
CC\ ticket plus $29.70 for a ticket on United or Western, with the $36.94 outlay that
he would have had to pay in the absence of intrastate carriers.
« William A. .Jordan, supra, note 4, at l.'')."i, 276-78 and 284-87. _
*2 1 Official Airline Guide (Xorth American edition Mar 15 197o). 74 q inr?
« William A. Jordan, supra, note 4, at 117 and 122-25. Also, CAB orders 74-3-105
(Mar. 25, 1974) and 74-5-75 (May 15, 1974).
4* James L. Mitchell, supra, note 1, at 7.
609
the PUC authorized service by Air California, Holiday Airlines and California
Sierra Airlines (subsequently replaced by Sierra Pacific Airlines).'^ From the
viewpoint of this Subcommittee, the relevant fact is that in recent years the
absence of CAB regulation has resulted in four additional airlines providing
scheduled service with large aircraft within California. Thus, there is appre-
ciably more airline rivalry in California today than there would have been
under CAB regulation. This is obviously undesirable to the CAB-regulated air-
lines, but it has demonstrably benefited many California residents and visitors,
and it has certainly not resulted in "a single carrier monopolizing all of the Cali-
fornia markets," neither in 1965 nor in 1975.
REGULATOEY PEOTECTION
Mr. Mitchell is right when he says that the PUC "has given great protection
to the regulated (intrastate) carriers," but his further statement that "[n]o
competitive authority has been authorized" is incorrect." Between 1968 and 1974
the PUC-authorized rival service between Air California and PSA in the follow-
ing seven city-pairs : Burbank-San Jose/Oakland, San Diego-San Jo.se/Oakland,
Sacramento-Ontario/San Diego, and short-haul San Jose-Oakland." Further-
more, in 1973 the PUC authorized Holiday Airlines to carry local pas.sengers in
the San Diego-Los Angeles, Los Angeles-Burbank and Los Angeles/Burbank-
San Jose/Oakland city pairs on flights also serving Lake Tahoe.'^ This provided
limited rivalry to PSA's unrestricted services between those cities.
There is no question but what both the PUC and the CAB have given route se-
curity to the airlines under their respective jurisdictions. There is also no ques-
tion but what the adoption of regulation was supported by the trunk carriers in
1938 and by PSA in 1965. Indeed, this support of regulation by the concerned car-
riers is extremely relevant evidence about their perceptions of who benefits from
government regulation. There is considerable question, however, about Mr.
Mitchell's statement that PSA's management believed it could not obtain the
necesary financing to buy Boeing 727 aircraft "without the security of a certifi-
cate," ^° and there is also some question that "there was a public outcry for an
end to the uncertainty and chaos resulting from the free entry and exit of the
intrastate air carriers." ™
Several pieces of information are relevant to the matter of buying new Boeing
727's. First, PSA was able to finance and purchase six new Electras between 1959
and 1963 without the benefit of regulated route security.^^ Second, during the six
years from 1959 through 1964, PSA accumulated profits after taxes of $7.3 million
on total operating revenues of 76.0 million — hardly a record that would discourage
investors, especially in light of the low profits of the CAB-regulated airlines dur-
ing the early 1960s.^' Third, note 1 of PSA's 1964 annual report contains a full de-
scription of PSA's financing for its first six Boeing 727's and, as can be seen by
reading appendix A of this testimony, there is no indication in that note of any
undue financial diflSculties. This, even though the arrangements were completed
in February 1965, several months before the enactment of assembly bill 413 gave
the PUC the power to grant I'oute security to PSA."^
Whether or not there was actually a "public outcry" for regulation is more
diflicult to determine. The first attempt to extend substantial PUC regulation
over intrastate airlines occurred back in early 1949. If there was a public outcry
for such regulation it was unsuccessful, for Senate bill 1624 was not enacted.^
Appendix B of this testimony gives two eclitorials from that period which opposed
or questioned the purpose of that bill, so it is clear than any possible outcry was
not unanimous.
« William A. Jordan, supra, note 2, at 7. Mr. Mitchell mentions Air California and
Holiday Airlines on pp. 12 and 13 of liis statement, but he overlooljs Sierra Pacific Airlines.
" James L, Mitchell, supra, note 1, at 12.
47 PUC decisions 7424S (June 11, 1968), 76110 (Sept. 3, 1969), 79085 (Aug. 24, 1971),
and 83476 (Sept. 17, 1974). PSA's successful effoi t to eliminate Air California from the
Burbank-San Jose/Oakland cit.v-pairs is described in William A. Jordan, "Some Predatory
Practices Under Government Regulation?" 10-22 (University of Toronto-York University
Joint Program in Transportation, Research report 26, January 1975).
«PUC decision 81S93 (Sept. 14, 1973).
*» James L. Mitchell, supra, rote 1, at 12.
sold, at 11-12.
"^1 William A. Jordan, supra, note 4, at 42-43. Also, PSA Annual Report, 1 (1973).
^ Id. at 336-38. Also. CAB, supra, note 27, at 74
"•Td. at 2.
"«nate bill 1024, introduced Apr. 20, 1949.
610
My own intensive study of the California intrastate carriers began in January
1965,^' yet I was unaware of the State Legislatures plan to increase the i'l^C's
jurisdiction over intrastate passenger airlines until my first visit to the PUC's
offices in early March 1905. At that time a PUC official advised me that assembly
bill 413 was being considered and, when I asked why this was happening after so
many years of unregulated service, his reply was to the effect that this time PSA
supported the legislation.^® If there were a public outcry favoring regulation one
would expect it to be reflected in newspaiier articles of that period. In the course
of my research I went through the clipping files of the Los Angeles Times and the
San Diego Tribune looking for information concerning intrastate carriers. No-
where in those files did I come across an article containing statements from
passengers (or others) complaining about intrastate-carrier service and asking
for airline regulation. Mr. Mitchell may be able to supply contrary evidence, but
until he does my experiences lead me to believe that assembly bill 413 was
enacted with little publicity, let alone 'public outcry."
EFFICIENCY AND LONG-RUN PROBLEMS
Unfortunately, Mr. Mitchell failed to focus on that part of my testimony con-
cerning the effect CAB regulation has had in substantially decreasing airline
efficiency."' The evidence that regulation greatly decreases eflSciency (and in-
creases costs) should be particularly disquieting to the regulated airlines because
it indicates that there is a fundamental economic weakness in their position even
if they are successful in maintaining the regulatory status quo. The history of the
regulated airlines has been one of recurrent financial problems despite an overall
secular growth rate since World War II of 12.7 percent per year, compared with
a growth in constant-dollar GNP of 3.5 percent.^' Thus, there is reason to predict
even more problems will occur under existing regulation should the airlines enter
a period of small growth or, eventually, secular decline.
The conclusion of my testimony mentions two legislative alternatives to the
status quo which would serve to increase airline eflSciency. One alternative is to
"perfect" CAB regulation by placing every significant aspect of airline opera-
tions under the control of the Board. The second alternative is to deregulate by
abolishing the CAB's control of entry and exit and to allow any airline to lower
its fares without regulatory constraint.^" Furthermore, under this second alterna-
tive the airlines would be subject to existing antitrust laws.
The CAB has been moving in the direction of the first alternative over the
past six years by authorizing an increasing number of capacity agreements and
by discouraging' other aspects of service-quality rivalry such as lounges and
liquor "wars." "" The perfection of CAB regulation may have considerable appeal
to many airline executives and investors since it should do much to solve the
current financial problems of some of the airlines. At the same time, however,
this move would be detrimental to airline suppliers such as aircraft and engine
manufacturers, would decrease the quality of service offered passengers without
compensating decreases in fares, and would allow unions and other monopolistic
suppliers of inputs to increase the prices of their inputs or to establish work rules
«sOn pages 2 and 3 of his statement. Mr. Mitchell reports that most of the research
for my dissertation was done while 1 worl<ed at Western Air Lines from 1960 to 1964.
I wish that had been the ease, both because it would have resulted in the dissertation
being completed in 1966, rather than 1968, and because I much prefer being paid to do
research. Unfortunately, as reported in the preface to my boolv, while my work at Western
made me keenly aware of the intrastate-carrier "problem," and thus was necessary for
the conception and design of the dissertation, the actual research was undertaken primarily
between January 1965 and August 1967 while I was a doctoral student at UCLA and an
acting assistant professor at Stanford University. During this time, however, my friends and
former associates at Western very generously allowed me to use Western's library of CAB
publications, tariffs. Official Airline Guides and files concerning Western Air Lines of
California. These were very important contributions to the study.
50 Conversation with Mr. John L. Pearson, California Public Utilities Commission
(Mar. 8, 1965).
E7 William A. Jordan, supra, note 2, at 29-43.
^ Total certificated route air carriers produced 791 million revenue ton-miles in 1946
and 22,425 RTM in 1974. Gross national product in 1958 dollars increased from .$312.6
billion in 1946 to $821.1 Mllion in 1974. CAB, supra, note 27, at 12, and Air Carrier
Traffic Statistics 1 (December 1974). Also, Economic Report of the President, 250
(February 1975).
^ William A. Jordan, supra, note 2, at 46-47.
*> William A. Jordan, "Airline Capacity Agreements: Correcting a Regulatory Imper-
fection," 39 Journal of Air Law and Commerce, 184-93 and 202-5 (spring 1973).
611
whereby less input is received for a given price. This latter point is very impor-
tant because it implies that vphile short-run efficiency is possible through in-
creased regulation, the long-term picture is not encouraging.
In addition to the long-run efficiency problem, unless those administering this
"perfect" CAB regulation prove to be remarkably perceptive and re.si>onsive to
the development of substitutes for airline services and to this and other sources
of changes in the demand for airline services, the perfection of regulation has
the added drawback of introducing rigidities and economic excesses that will
hasten the decline of the airline industry. A Penn Central type problem is much
more likely under the extensive regulation of a few large airlines than under the
deregulation alternative. Deregulation would result in services being provided
by many smaller airlines. Not only would these airlines have to be responsive
to economic changes in order to survive, but the failure of any one or several of
them would cause little dislocation in the economy. The recent proposal to merge
Pan American and TWA is only one indication of how merger, a frequent regu-
latory solution to airline problems, could result in the development of an airline
that was so large that its demise would yield a crisis for the nation.^^
Since increased regulation promises immediate solutions to problems, and
since short-run solutions are often given priority over long-run solutions, the
alternative of "perfecting" CAB regulation is one that will have considerable
appeal. Some specific suggestions on how CAB regulation can be improved are
presented in one of my recent papers which the Subcommittee may find useful.*^
Mr. Mitchell, however, chose to emphasize possible problems resulting from
deregulation, so the following sections of this testimony will respond to some of
his analyses and predictions concerning deregulation.
SERVICE TO DENSE MARKETS ONLY?
A frequent prediction by airline executives is that without CAB regulation
scheduled airline service would be available only over the densest routes con-
necting the largest cities in the country. Mr. Mitchell makes one of the milder
statements in this vein when he says "[a]t most, a few carriers will survive and
they will tend to limit their activities to the densest markets." ^
There are several things wrong with this prediction. First, it is inconsistent
with the California intrastate exi)erience. Second, it ignores the long-standing
policy of, initially, the regulated trunk carriers and, now, the local-service
carriers to drop small cities from their routes. Third, it is inconsistent with the
law of diminishing marginal returns.
Evidence on the California experience is presented in my book.*^ Actually, as
discussed above, the efforts of the intrastate carriers to serve small city-pairs
are quite remarkable given the prior coverage of the subsidized CAB-regulated
airlines in California.
The relative coverage of small cities by various classes of airlines is also in-
structive. As of May 1, 1973, the trunk carriers provided service to only 183
communities in the 48 contiguous states, compared with 401 for the subsidized
local service carriers and 333 for the unregulated and unsubsidized commuter
carriers.*^ Of the 244 unduplicated communities with 1970 populations of 25,000
or less having scheduled airline service, the trunk carriers provided service to
only 17 (at ten they provided the only service), while the local service carriers
operated at 129 such communities, and the communter carriers at 132 (102 of
which received their sole service from a commuter carrier)."" When it comes to
unsubsidized service, small communities clearly received much more service from
the unregulated commuter carriers than Irom the regulated trunk carriers. If
deregulation meant the termination of trunk-carrier service at such small com-
munities, the loss would be negligible and would quickly be taken up by com-
muter or local service carriers.
The law of diminishing marginal returns says, simply, that if you hold one
physical input constant and increase the use of another input, eventually the
81 Charles E. Schneldei-, "Banks Asked to Support Pan American," 101 Aviation Week
and Space Teclinology, 31-32 (Sept. 23, 1974).
*- William A. Jordan, "If We're Going to Regulate the Airlines, Let's do it Right,"
James C. Miller III, ed.. Perspectives on Federal Transportation Policy (1975).
«3 James L. Mitchell, supra, note 1, at 13.
^ William A. Jordan, supra, note 4, at 17-24, 115-33 and 258-59.
« CAB, A Profile of Airline Service in the 48 Contiguous States. May 1. 1973 table 1
(December 1974).
«8 Id. at tables 3, 4. 5 and 9.
612
marginal output from using more of tlie second input readies a peak and begins
to decrease. A common classroom example is adding fertilizer to an acre of land
to grow wheat, but an analogy for the airlines would be adding airplanes to a
single major route, such as New York-Chicago-Los Angeles, to produce airline
service. The results of operating over 2,000 aircraft eight hours a day on this
single route are obvious and ludicrous."' Somewhat less obvious, but equally
ludicrous, would be the operation of more than 2,000 aircraft over routes con-
necting just the top 100 city-pairs. The law of diminishing returns predicts, and
quite reflection supports, that aircraft fleets would be dispersed over the entire
U.S., covering high, medium- and low-density routes until the cost (including
the market rate of return on investment) of producing the last flight with a
suitable aircraft on each route would roughly equal the revenues obtained from
that flight. This doesn't mean that scheduling would be error free. Scheduling
mistakes are made under regulation and they would occur without regulation.
The difference is that without regulation open entry would quickly discipline
those who make frequent mistakes, while the discipline of the market works
more slowly under regulation.
SERVICE QUALITY AND FARES WITHOUT REGULATION
The California intrastate experience leads Mr. Mitchell to believe that "over
the long term, fares would be higher and service would be inferior to that
existing under a properly regulated system." ** Unfortunately, it is impossible
to make a precise evaluation of this statement because the characteristics of
"a properly regulated system" are not specified. However, assuming such a system
would have many of the properties of historical CAB regulation, the California
experience does demonstate that service quality without regulation would indeed
be inferior to that existing under CAB regulation. Without regulation coach
service would be even more dominant than it is today and there would be little
first-class service ; aircraft design would emphasize low operating costs relatively
more than the traditional emphasis on service quality ; and passenger load factors
in excess of 70 percent would be the norm rather than the present-day 50-
to 55-percent average."' But, in contrast to Mr. Mitchell's prediction, the Cali-
fornia evidence is clear that without regu'ation fares would be as i,auch as 50
percent lower than the coach fares authorized by the CAB. The great acceptance
of intrastate-carrier service in California indicates that a majority of passengers
prefer this tradeoff of somewhat inferior service quality for much lower fares.
DISTORTIONS FROM PROTECTED INTERNATIONAL OPERATIONS
Mr. Mitchell raises the interesting possibility that, with open entry domesti-
cally, carriers having governmental protection in their international operations
would enjoy "a substantial competitive advantage" over carriers limited to do-
mestic operations." If this were truly an important advantage, TWA should
now be the dominant transcontinental carrier (which it is not), and American
should have fought to retain its North Atlantic routes in 1950 and its South
Pacific routes in 1974 ( which it did not ) .
Actually, the California experience provides relevant evidence regarding this
matter. As far as airline regulation is concerned, California can be considered
to have been a "country" with entry open to any carrier on its domestic routes,
but with controlled entry into "international" routes to all other countries, in-
cluding those 47 "sovereign states" located to the north and east of it. Despite
the limited geographic size of the "country" of California and the resulting
relatively small demand for "domestic" airline services, its unprotected "do-
mestic" carriers set the basic service-quality and fare levels wherever they pro-
vided service, and were able to force the protected "international" airlines to
oifer low-fare coach services in those city pairs. True, the citizens of California
were greatly benefited by their airlines, and only the most eflScient of the Cali-
fornia carriers were able to survive, but those few carriers that did survive were
also benefited by their government allowing them the opportunity to enter and
87 The system fleets of all trmk carriers (minus Pan American) and local service
carriers totaled 2.164 aircraft as of Dec. 31, 1972. CAB, supra, note 27, at 1-2.
8s James L. Mitchell, supra, note 1, at 4.
«» William A. Jordan, supra, note 4, at 34-56 and 200-209.
TO William A. Jordan, supra, i ote 2, at 7-29
71 James L. Mitchell, supra, note 1, at 14.
613
test their mettle against the protected "international" airlines. To use Mr.
iUitcheil s word, the results may have been "distorted" from what would have
occurred had entry been open in the much larger market provided by the 47
adjacent "countries, " but many consider the results to have been preferable to
the other distortion that would have occurred had entry never been open so that
California would have had to depend on "international" airlines for all of its
airline services.
Mr. Mitchell points out a major problem faced by airlines with "interna-
tional" routes when he says "the markets these stronger (international) carriers
would tend to serve would have little to do with domestic air transportation
needs of the public. The markets served would be those best suited to interna-
tional travel, and the services would be so geared." '" This may explain why the
certificated trunk carries were unable to maintain their dominant positions in
California city pairs large enough to support two or more carriers. The special-
ized California intrastate carriers geared their services to the air transportation
preferences of the California public, and the majority of these passengers re-
sponded by utilizing those more convenient services. The same would occur were
all U.y. city-pairs open to any carrier meeting FAA operating standards. To the
extent carriers with international routes geared their services to international
demand they would be at a disadvantage in domestic U.S. routes,
Mr. Mitchell also states that "carriers with strong international routes would
have a substantial competitive advantage which could and undoubtedly would
be used to improve their economic position to the detriment of carriers without
such protected routes." " I assume he means that profits from international routes
would support predatory pricing/practices by these carriers. Since 1958, there
have been a number of studies of alleged predatory pricing in unregulated in-
dustries, and all have found predation to be relatively costly and, therefore, rare.
I have recently completed a study of three alleged cases of predatory practices
among airlines operating under government regulation, and my findings are
generally consistent with the earlier studies.''^ Predation appears to be a favorite
spectre to be raised by suppliers who fear the "chaos" of open entry. It happens,
however, that predation occurs much more frequently in speeches and trade-
journal articles than it actuaHy occurs in the economy. It may be that the CAB-
regulated airlines practiced predation against the California intrastate carriers
from 1949 to 1965. If so, they are certainly in a position to provide clear evidence
to support allegations that carriers with international routes will have a pre-
datory advantage over domestic carriers operating under open entry. But this
evidence should be forthcoming before any great weight is given to such allega-
tions.
DISTORTIONS FROM PROTECTED INTRASTATE OPERATIONS
"At the other end of the spectrum, the air transportation system would be
distorted by protective action by state aeronautic boards and public utility com-
mission." "® This is another interesting idea and it has antecedents in the rail-
road industry through 1920. The problem for the railroads was largely resolved
by the Supreme Court and Congress in favor of the primacy of interstate com-
merce.™ Similar decisions for the airlines would be even more effective since the
comparative advantage of the airlines is in long-haul transportation, making
interstate traffic much more important in airline than in railroad operations. If
nothing else, the relative size of interstate traffic is evidenced by the fact that
there are only a few states in which intrastate airlines have appeared.
Appendix B of my original testimony shows that intrastate city-pairs provided
21 out of the top 100 origin-destination city-pairs in 1972 in terms of passengers
(but not RPM).'' However, 14 of these 21 city-pairs were located in California
and two were in Texas, leaving only five more large intrastate city-pairs in the
remaining 47 states (excluding Hawaii). Also, there is no evidence to date that
state regulation in California and Texas has been detrimental to pas.sengers.
Furthermore, even assuming full carrier protection, it is difficult to imagine many
72 Id. at 15.
73 I,J n^ 24
'* William A. Jordan, supra, note 47. Several of the earlier studies are noted in this
paper.
"s James L. Mitchell, supra, note 1, at ro.
•'"Gibriel Kolko, Railroads and Regulation, 1877-1916, 164-69 and 217-30 (1965).
77 William A Jordan supra, note 2. at 50-52. The state of Hawaii is excluded sinco
flights over international waters mt.ke all intratJtate service subject to CAB regulatioc.
614
new airlines being attracted to intrastate city pairs witliin Vermont, New Hamp-
shire, Massachusetts, Rhode Island, Connecticut. New Jersey and Delaware; nor
do the city-pairs within North Dakota. South Dakota, Nebraska, AVyoming. Mon-
tana, Idaho, Utah and others seem to hold much promise to intrastate carriers
operating large aircraft. Overall, given the allure of cities in adjacent states and
the evidence that protective regulation decreases airline efficiency, it would be
very surprising if state regulation would significantly distort air transportation
in the U.S.
PERIOD OF ADJUSTMENT
Mr. Mitchell contends I am incorrect in predicting that about ten years would
be required for the airlines to adjust to the deregulation of entry and fare de-
creases. Instead, he predicts that conditions would remain chaotic and unstable.'™
For understandable reasons, he equates stability with no new entry and with no
carrier failure. This is similar to an error students frequently make in thinking
that equilibrium in a perfectly competitive market structure means there is no
change in industry membership. Actually, in a competitive market structure inef-
ficient firms are regularly replaced by new, more eflScient firms. Tlius, individual
firms experience "chaos," but the industry itself functions smoothly in efficiently
providing desired goods and services to consumers at low prices.
Nothing in the California experience nor in my analysis indicates that after a
10-year adjustment period all of the 100 to over 200 airlines then in existence
would continue providing service with no failures, no new entry or similar
rigidities. This is not the way an unregulated economy works. Aggressive, effi-
cient firms will, of course, replace inefficient firms. This is undesirable to those
replaced, but it benefits consumers as well as the owners and employees of the
efficient firms. My 10-year prediction refers to the period of time required to
eliminate the excess capacity, high fares and important inefficiencies that have
developed in the CAB-regulated industry over the past 37 years. From Mr.
Mitchell's viewpoint, and that of individual airlines, "chaos" will remain long
after this period of adjustment is over.
CONCLUSION
Enough has been said to explain why I disagree with Mr. Mitchell's analysis
of the evidence from the California intrastate and other relatively unregulated
airline experiences. Now it is time to step back and look at the overall picture.
No sensible person will argue that, given the limits of technological developments,
the service of the existing CAB-regulated airlines has been anything but out-
standing during the past 37 years. Similarly, it cannot be seriously proposed that
California travelers have had inadequate .service from the combined operations
of all the airlines with routes in the state. Certainly, over the years the average
quality of service within California has been somevihat lower than that offered in
similar East coast city-pairs, but California ns were given a choice between high-
quality, high-fare service and lower-quality, lower-fare service, and the great
majority (but not all) opted for the latter. The expressed preference favored
those intrastate carriers able to provide service in a very efficient manner. There
were many painful and heartbreaking experiences among those California intra-
state carriers unable to succeed within the restricted confines of the .state, but
at least they were allowed to try and tho.se few that were successful did benefit
from that opportunity. At the same time, most passengers also benefied.
Mr. Mitchell says that Continental Air Lines does not oppose new entrants into
the CAB-regulated airline industry and that it has urged the Board to "have a
more open mind than it has shown in the past to con.sider the applications of new
entrants." ™ Unfortunately, the Board has had an absolutely closed mind regard-
ing new-carrier applications for trunk .service since 1938, and it has allowed only
one airline. Air New England, to enter the ranks of the local service carriers
since 1950. Given this consistent record, it seems reasonable to conclude that "a
more open mind" will be inadequate to provide the benefits of open entry to con-
sumers of airline services. Furthermore, Mr. Mitchell makes no mention of the
related requirement that there be no regulation of fare reductions.
Perhaps the most eloquent testimony regarding the actual effects of CAB
regulation is contained in the published statements of industry spokesmen con-
's Id. at 47. Also, James L. Mitcholl, supra, note 1, at 4 and 11.
'' James L. Mitchell, supra, note 1, at 15-16.
615
cerning the likely destruction of the airline industry if open (free) entry were
to become a reality."" In essence they are saying that regulated airlines with as
much as 37 years of experience would be no match for new airlines. Why should
these experienced airlines with their existing aircraft, trained personnel, estab-
lished routes and markets have such fear of commuter carriers growing into
larger operations, supplemental carriers providing scheduled services, existing
intrastate carriers expanding into adjoining states, and completely new airlines
being organized by, say, former airline or Air Force personnel? Do they really
appreciate the apparent degree to which their regulated operations have become
inefficient, or is it merely a habitual and understandable effort to protect the
status quo and save themselves from making minor adjustments if, indeed, they
are the best-qualified producers of airline services ?
The fears of industry chaos and instability reflect the viewpoint of suppliers,
not consumers. Furthermore, it overlooks the fundamental reality that there
is a great demand for airline services. The advantages of air travel have been
apparent to man since the dawn of time. Man's ingenuity made air travel ix)s-
sible starting in iyu3, commercial air transportation become economically
feasible in the late twenties and early thirties, and the tremendous technologi-
cal advances achieved in World War II and subsequent years have made air
transportation the most preferred way to travel long distances. While the rate of
growth shows some signs of tapering off (assisted by relatively high fares), the
fundamental demand for this service remains strong and pervasive. It is this de-
mand, not CAB regulation, that has provided, and will continue to provide,
stability in the industry from the viewpoint of the consumer. This great demand
means that airlines will continue to operate for many years under existing CAB
regulation as well as under a "perfected" CAB regulation, despite the long-run
problems and rigidities associated with regulation. Alternatively, it also means
ihai airline services will continue to be supplied if regulation is abolished. Under
deregulation, however, the economic viability of the industry will be greater than
under regulation because surviving airlines will be more efficient and more sen-
sitive to consumer demand.
Appendix A. — Notes to PSA's 1974 Financial Statements
1. Boeing Model 727-14 jet aircraft.— The company has on order six Boeing
Model 727-14 jet aircraft. Five aircraft are scheduled for delivery in 1965 and
the sixth in 1966. Unpaid open commitments relating to these aircraft and re-
lated spare equipment totaled $25 million at December 31, 1964 of which $22.5
million is due in 1965.
In connection with these purchases, in February 1965, the company entered
into a loan agreement with the Bank of America National Trust and Savings
Association, Connecticut General Life Insurance Company and Teachers Insur-
ance and Annuity Association of America to borrow $23 million by issuing 51^
percent series A installment notes in the amount of $14 million and 5i/> percent
series B installment notes in the amount of $9 million. Series A installment
notes will be payable in monthly installments of $166,667 commencing January 1,
1966 with the final payment due December 1, 1972. Series B installment notes will
be payable in quarterly installments of $500,000 commencing March 1, 1973 with
final payment due June 1, 1977.
The existing 51/2 percent installment notes payable to bank of $3,258,319 are
to be prepaid without penalty from the proceeds of the above notes.
In addition to the above mentioned financing, the company has made arrange-
ments to borrow up to $1.1 million at 6 percent interest from the manufacturer
for purchase of the sixth aircraft. The amount borrowed will be repaid over a
5-year period.
The company will use certain of its current funds to meet the commitment de-
mands in 1965 in lieu of drawing on loan funds until necessary.
Under the terms of the related chattel mortgage indenture, the Electra air-
craft, flight equipment and parts inventory and the Boeing Model 727-14 air-
craft and spare equipment, when delivered, are pledged to secure these notes.
The indenture, among other restrictions, limits the retained earnings available
for payment of cash dividends to $1 million plus 75 percent of net income less
100 percent of net losses after December 31, 1964. Further, the company must
so 102 Aviation Week and Space Technology, 20-22 (Apr. 7, 1975).
616
maintain stockliolders' equity of not less than $9 million and as of September
1965, working capital of $1 million or SVs percent of cash operating expenses for
the preceding fiscal year whichever is greater. $6,347,871 of retained earnings at
December 31, 1964 is not available for cash dividends under these provisions.
2. Common stock.— In January 1964, the company declared a 40 percent stock
split in the form of a stock distribution of two shares of common stock for each
five shares held. In addition, the Board of Directors increased the stated value
of the common stock to $1 per share.
Under the restricted stock option plan approved by the stockholders in De-
cember 1962, options on the company's common stock were authorized to be
granted to certain key employees at not less than 95 percent of the fair market
value of the stock at the date of grant. The options are exercisable one-third each
year beginning 1 vear after grant date and will expire 5 years from giant date.
Options to purchase 56,000 shares were granted in 1963 at an option price of
$12.90 per share after giving effect to the above mentioned stock split). At De-
cember 31, 1964, 49,237 shares of common stock are reserved for employee stock
options outstanding and options for 11,904 shares are exercisable.
At December 31, 1964, 7,283 shares of common stock are reserved for conversion
of the 61/2 percent subordinated convertible notes based on the conversion price
of $7.14 per share.
3. Federal income tax.— In 1964, the investment credit has been reclassified on
the accompanying balance sheet from accumulated obsolescence and deprecia-
tion, and is included within the deferred federal income tax. The balance of the
investment credit is being amortized as a credit to the provision for federal in-
come tax over the remaining useful lives of the related assets.
Jf. Commitments. — Commitments for purchase of new flight equipment are dis-
cussed in note 1.
Annual rent commitments under various long-term property and equipment
leases are approximatelv as follows: 1965— $294,000 ; 1966— $226,000 ; 1967—
$221,000; 1968— $167,000; 1969— $130,000 : 1970 through 1972— $105,000 ; 1973
through 1981— $87,000 and $76,000 thereafter until 1990 (the reductions resulting
mainly from the expiration of leases).
5. Expanded route structure and fare changes. — In January 1965, the company
made or has pending changes in its route and fare structures. See the president's
letter for comments regarding these matters.
Appendix B. — Editorials Regarding Senate Bill 1624 (May 1949)
The Dogfighting Airlines
[From the Burbank Daily Review, 2, May 10, 1949]
The airline politicians are at it again.
This week, air politics threaten another of the low-cost independent flying
services based at Lockheed Air Terminal in Burbank.
Under a bill introduced into the state senate and now before the committee
on public utilities, airlines which carry on their business entirely within the
state would come under regulation of the state public utilities commission.
The independent airline carriers, which charge $9.99 for a trip from Burbank
to San Francisco, not including tax, against $21 for the major airlines, are
protesting the bill introduced by State Senator George J. Hatfield of Newman.
Senator Hatfield represents Madera and Merced counties, both of which to-
gether have a population which approximates that of the city of Burbank.
Neither county boasts of a city which would merit service by any scheduled air
carrier or conceivably have an interest in the airline problem — except for the
private interests of individuals like Senator Hatfield.
Nevertheless, Senator Hatfield has made air politics his own particular inter-
est, clearly in the interest of "protecting" the public from low-cost air trans-
portation.
Any casual onlooker who has only a smattering [sic] of information concerning
the machinations of the airline politicos ought to be disgusted by the series of
attempts made to hamstring air progress.
All planes operating out of major airfields are under the supervision of air
safety regulations of the federal Civil Aeronautics Authority. There is no ques-
Source : PSA Annual Report (1974).
617
tion that the Burbank-to-San Francisco lines fly safely. One airline involved
has a record of 5,800,000 accident-free passenger revenue miles. There is no
question that the service is not cutthroat comi^etition, because the independent
small airlines cannot afford to operate at a loss.
Independent nonscheduied airlines between Burbank and east coast cities have
recently been the victims of attack through the federal Civil Aeronautics Board,
not to be confused with the CAA.
These efforts to keep flying out of the range of the average man's iwcketbook
are clearly for the benefit of a few large companies, which evidently do not stop
at anything including political means to achieve profits.
It is high time that the airline lobbyists realize what they are doing. They will
eventually legislate themselves into unprofitable operation, just as the railroad
lobbyists of anocher day succeeded in doing.
Certainly, the California Public Utilities Commission, which is responsible for
rail, streetcar, and buslines in this state, does not have a record of encouraging or
providing the public with excellent transportation of any type. If existing facili-
ties prove anything, the opposite has been the case. We would hate to see the
commission obtain control of air travel in this state also.
What can be done to protect the public's interest in aviation? The public
certainly deserves more consideration from state and federal goveinment than
do the private interests of the large corporate interests.
Appendix C. — Valley Air Service
[From the Valley Times. Editorial page (n.d.)]
Intrastate flights originating at Lockheed Air Terminal and serving the Bay
area, primarily, are being threatened with "grounding tactics" by the pro-
visions of Senate Bill 1624, sponsored by Senator Hatfield.
These regular flights constitute practically the whole of intrastate passenger
business originating in the Valley for the convenience of the thousands of air-
minded citizens w^ho daily use these lines to the north.
Most of the commercial lines come into the Municipal Field, many miles from
the Valley, except when fog drives them to Lockheed Air Terminal.
The importance of having air passenger service available to the more than
7,000 persons, who, during the period from March 15 through April 30, this year,
were carried by Robin Airways, Inc. between Burbank and Oakland, and to the
7,012 passengers flown by Central Airlines during the month of April from Bur-
bank to San Francisco, is evident.
In the light of these phenomenal passenger figures which established the need
/or flights into and out of the Valley, it would appear that Senator Hatfield
should withhold action on his bill pending completion of a survey of nonscheduied
flights being prepared by the Civil Aeronautics Board.
It also appears that, with the coach-type, average-man-priced service these
local lines are rendering, a complete study of their activities is warranted before
they are subjected to an unnecessarily quick decision on their fate made without
reference to actual factual data.
This unheralded bill was scheduled to come before the Senate for reading on
May 11. However, when these affected companies found out about the impending
legislation, they were able to delay this Teading and to secure, instead, a public
hearing on Ma.v 16.
Adequate discussion with full deliberation upon this imi>ortant matter must
result in continuing this service so important to valleyites.
The valley, which is a cradle of aviation industries and air enthusiasts, cer-
tainly justifies passenger service from the Lockheed Air Terminal to the Bay area
and to other states in the nation.
We feel that Senator Hatfield, when apprised of these facts at the public hear-
ing, will deem it wise to proceed cautiously and await the important CAB report
before acting on his bill.
Response of Continental Airlines, Inc. to Supplementary Testimony os
Dr. William A. Jordan
On April 21, 1975, Professor Jordan submitted a 39-page "supplementary
testimony" which, in essence, is a rebuttal to the supplementary statement filed
618
with the subcommittee by James L. Mitchell, vice president of regulatory proceed-
ings of Continental Airlines.
Although we find many of Professor Jordan's statements to be misleading,^
we will not engage in a point-by-point rejoinder. A far better purpose can be
served at this juncture by directing utteiitiou to the critical issue which confronts
the subcommittee. That issue, simply stated, is what conclusions can be drawn
from the California intrastate experience, and can that experience be reliably
projected to a national system.
As Mr. Mitchell pointed out in his statement, there are "some limitations on
generalizing too much from this [the California] exi>erience." (Statement, p. 5.)
Professor Jordan apparently agrees, when he states that "[tjhere are indeed
limitations to generalizing from the California (and Texas) experience. . . ."
(Supplementary Testimony, p. 15.) However, after making this statement.
Professor Jordan goes on to generalize with the assertion that :
"With open entry nationwide, airlines could operate more efl5ciently and
enjoy lower operating costs than experienced in constrained intrastate areas,
demand for their services would be far greater, and there would probably
be proportionally fewer failures than what occurred within California"
{Id.).
At a later point in his testimony, Professor Jordan argues that :
"The specialized California intrastate carriers geared their services to the
air transportation preferences of the California public, and the majority of
these passengers responded by utilizing those more convenient services. The
same would occur were all U.S. city pairs open to any carrier meeting FAA
operating standards (Id., p. 30, emphasis supplied.)
We disagree with Professor Jordan that such broad generalizations can be
projected from the California experience. The California exj^erience, as Professor
Jordan now seems to realize is characterized by a stable base of service required
to be provided by the CAB-certificated carriers coupled with strong price and
service competition from aggressive intrastate carriers who had to be aggressive
in order to make inroads into the marketplace. The two classes of airlines com-
plemented one another, and the public benefited by this blend.
Notwithstanding the financial failures of various intrastate carriers, the
major California markets continued to receive good basic service, because they
were served by CAB-certificated air carriers. Even Professor Jordan makes this
point by naming the CAB-certificated carriers to support his argument that the
public received reliable service :
"Surely, given the continuing services of PSA, United, TWA, Western,
Pacific and other airlines, it is incorrect to say that passengers had no
assurance of receiving reliable air service" (Supplementary testimony p. 16.)
In the major markets, the people of California have had the best of both worlds —
stable, reliable service by the CAB-certificated carriers and aggressive price
competition stimulated by the intrastate carriers. In Professor Jordan's words,
"Overall, the rivalry between individual carriers, regardless of their regu-
latory classification, has resulted in an outstanding coverage and quality of
service being provided by all airlines as a group. As far as the consumer is
concerned it is this overall level of service that counts, and the airline con-
sumer has been amply blessed in California." (Id., p. 0 emnhasis supplied.)
Without the presence of the CAB-certificated air carriers, the people of California
would not have enjoyed the benefits of the competitive rivalry which existed
between PSA and these airlines. In criticizing Mr. Mitchell for failing to mention
the CAB-certificated carriers, Professor Jordan points to their presence as having
prevented a "monopoly situation :"
"Was there any airline monopoly in California? Mr. Mitchell states that by
1965 the period of open entry in California 'produced a single carrier
monopolizing all of the (major) California markets.' He fails to mention
that at that time, in addition to PSA, service was provided in major Cali-
fornia city-pairs by American, Delta, National, TWA. United, AVestern and
the three predecessors of Hughes Airwest (Bonanza, Pacific and West
Coast). This was hardly a monopoly situation (Id., p. 19).
^ An example Is his criticism of Continental at pages 8-9 of his testimony for failing to
serve some of the California satellites, which ignores the fact that community opposition at
Long Beacli and Orange County to any new airline entry on environmental grounds forced
Continental to curtail its ser.ice plan."
619
It is clear from the history of the California experience that the CAB-certifi-
cated carriers provided two signiticant public beiietits. First, they provided a
stable base of air service on which the pnldic could rely when confronted by the
financial failures of the intrastate carriers. Second, the very presence of the
LAB-certincated carriers, as well as their competitive response, spurred I'SA
to otter low fares and freciueut schedules in the primary corridor markets be-
tween San Diego, Los Angeles and San Francisco. I'SA had to otter these l>enefits
in order to succeed in the marketplace in competition with the CAB certificated
carriers.
Tlie competitive battle between PSA and the CAB-certificated carriers is de-
scribed in a 1966 article published in the Journal of Air Law and Commerce^'
That article, which is a portion of a prize winning paper at Yale University,
describes PSA's entry into the Los Angeles-San Francisco market with low fares
and frequent service and the competitive response by TWA, United and Western
with similar fares and even better service. For example, Western responded
to PSA's Electra service by undercutting PSA on price and using DC-6B's.
United introduced pure jet aircraft with a fare only $1.05 higher than that
charged by for Electra service. United and TWA both ottered commuter service.
Tills varied competitive response by the trunklines reduced PSA's market
share and spurred PSA to improve its own service by upgrading its equipment
to pure jets and increasing its schedules. PSA was then able to recapture its
lost traflSc. The public was the obvious beneficiary of this comi)etitive struggle:
"Thus PSA, through vigorous competition in fares, equipment, and schedul-
ing, has been able to succeed in this important market. The trunks have
recently met the competition, and the advantages to the consumer are
evident . . ." (Id., p. 609.)
Had the trunklines not been serving the market, PSA would not have felt the
pressure to improve its service, and the public would not have been presented
with the variety and range of service and fare offerings that were made available.
Projected to a national scale, this experience indicates that the public would
benefit by new entry into air transix»rtation, just as it was benefited by PSA's
entry into the prime California corridor markets. Indeed, that has been Conti-
nental's position, as expressed by Mr. Mitchell : '^
"In fact, we believe that new entrants maintain vitality in the industry.
They bring innovation, which means public benefits. Moreover, the threat
of new entrants being permitted into the industry spurs the incumbents to
better serve the public ..."
But, as Professor Jordan concedes by his own arguments, the California experi-
ence also makes clear that the public is better .served, if, in addition to receiving
service and fare benefits from new entrants, it is assured of continuing, reliable
air service from certificated air carriers. The California experience shows that
competition works in both directions — the new entrants spur the incumbents
to react with improved service which, in turn, spurs the new entrants to improve
their own service. At the same time, the public can rely on continuing service by
the certificated carriers if new entrants should fail.
Viewing the California experience with caution — because, after all, that ex-
perience is related to very high density commuter markets — one nevertheless
can conclude that the CAB should undertake to certificate qualified new entrants
who would provide new .service and fare benefits to the public and stimulate a
competitive response by existing air carriers. However, one cannot use the Cali-
fornia experience to leap to the conclusion that tliere should be open entry.
Indeed, there is no historic experience to support the concept of open entry in
nationwide air transportation. The arguments for open entry, however well-
intentioned, are only arguments which reflect the proponents' judgment that
open entry will work. The implementation of open entry carries with it the risk
that their judgment is wrong. Professor .lordan is certainly entitled to his
opinions, but the subcommittee .should consider these opinions in the context
of what actually happened in California and how that experience can be used
to improve what is generally regarded as the best air tran.sportation system in
the world. Given the fact that a good national air transportation system does
exist, albeit with deficiencies, it would seem a better approach at this juncture
improve the system by introducing healthy doses of competition rather than tear-
2.\twoocl. JR.. "Intrastate Carrier-Competitive Impact-raclfic Southwest Airlines," 32
J. Air I^-iw & Comm. 007. autumn 1906.
^Supplementary Statement, pp. l.")-]6.
620
ing the system apart and risking the possibility that needed public service will
be lost.
Prepared Statement of Edwin I. Colodny, Exect:tive Vice President,
Marketing and Legal Affairs, Allegheny Airlines, Inc.
Allegheny Airlines was pleased to be included in the list of companies invited
to participate in these most vital hearings concerning the future course of
regulation of the U.S. domestic air transport industry.
My statement will be directed primarily to the subcommittee's interest in route
regulation.
The Federal Aviation Act of 1958 and its predecessor statute has been, by
and large, a success. The ability to move by scheduled air carrier on a convenient
basis throughout the United States speaks for itself. The safety record of this
industry is remarkable, and will undoubtedly continue to improve.
But despite how good we believe the system to be, we know it can be improved
upon. There is opportunity for needed service improvements, without amending
the statute. Before commenting on this, however, I believe it would be helpful
for the subcommittee to know why Allegheny believes the basic statutory
approach of the P'etleral Aviation Act should be left alone.
Let me use Allegheny as an example of the growth and service possible under
the existing statute.
Since 1964, Allegheny has grown from a small local airline which served about
1.5 million passengers in 1965, to a large regional carrier which served about 11
million passengers in 1974. Our commercial revenues grew from $27.5 million
to .$366 million in this period. Assets of the company increased from $45 million
to $290 million. Earnings have grown at a less dramatic rate though they reached
over $6 million in 1974. Retained earnings at the end of 1974 were minus $578,000.
The shareholders have received only two cash dividends in the company's
history— 5 cents i)er share in 1965 and 6 cents per share in 1966. Allegheny
received no federal subsidy in 1974. Management of the company has remained
essentially unchanged for over 20 years.
This record was made possible by three key achievements sanctioned by the
Act:
1. Route grants issued pursuant to section 401(a) of the Act;
2. Mergers with two other local service airlines, Lake Central in 1968 and
Mohawk in 1972, pursuant to section 408 of the Act ; and
3. Approval of the Allegheny commuter agreements pursuant to which the
CAB permitted Allegheny to suspend service at loss points in favor of independent
commuter operators utilizing smaller equipment.
Allegheny has exercised the authority resulting from the foregoing actions in a
vigorous manner, providing service in large and small, as well as competitive and
monopoly markets. The Allegheny history is the product of the administration of
the Federal Aviation Act by the Civil Aeronautics Board (CAB) which, as an
institution, has reflected a wide range of philosophies over the years.
Prior to 1965, the CAB had denied most applications by the local service car-
riers to serve heavily traveled short or medium-haul markets served by trunk-
lines. Then, the Board shifted its policy and encouraged local carriers to improve
their route structures to fit the jet age which was then upon us. To assist in this
transition, the CAB adopted a procedure for expediting applications to remove
restrictions on local carriers to permit .service in competition with trunklines
in short- and medium-haul markets, where such services were needed and could
be .shown to be profitable and subsidy-reducing.
Allegheny applied for and received authority in several large markets, such as
New York-Pitt.sburgh, Chicago-Pittsburgh and St. Louis-Pittsburgh. Allegheny's
share of these markets in fiscal year 1974 was 43, 26 and 55 percent, respectively.
We have concentrated our jet fleet on 100 passenger, twin-engine DC-9-30 aircraft
in single-class configuration at coach fare levels. We emphasize convenient serv-
ice with necessary amenities. No first-class compartments. No free liquor.
Today, Allegheny is a strong competitor against large carriers .such as United,
TWA, American and Delta.
We offer a wide variety of discount fares: weekend excur.sion at 25 percent
off, group 10 travel at 33 percent off, tour basing fares at 20 percent off, as well as
clergy and military reduced rates.
And we have requested CAB approval to expand the new Bicentennial excursion
fares to all markets on our system.
621
We also have pending a new group fare for small groups between 4 and 9. This
new fare would reduce the cost of travel to family and other groups by 20 percent.
Because of our strong discount fare program, we are able to promote Allegheny
as the No. 1 moneysaver in a large number of important markets.
While developing as a major factor in the dense short- and medium-haul mar-
kets, Allegheny was at the same time developing a new way of providing better
service at no cost to the Federal Government for many small cities.
In 1967, the CAB permitted Allegheny to commence the first experiment with
a commuter replacement program at Hagerstown, Maryland. The success of the
Allegheny commuter experiment is well-known. Under this program 27 cities now
receive service from 12 independent air carriers under contract to Allegheny.
These carriers operate at a profit with no Federal subsidy support. In 1974,
operating small aircraft such as Beech 99, Twin Otter and Nord 262, these carriers
generated over one million passengers primarily to and from smaller cities which,
prior to the Allegheny commuter, supported only limited frequency and required
heavy subsidy support. The consumer benefits at the small cities involved are
obvious. By and large, these are the kinds of communities which have received
limited benefit from a policy of free entry which already exists under part 298
of the CAB'S regulations.
The success of the Allegheny commuter story lies in its integration of small
city service to the mainline air transport network of this country. A prime exam-
ple is Salisbury, Maryland, which enplaned over 31,000 passengers in 1974. These
passengers travelled all over the United States and internationally, many of
them on Allegheny Airlines through connections at Baltimore/Washington Inter-
national Airport (BWI), Washington National Airport, and Philadelphia Inter-
national Airport. This could not be achieved without having the benefit of an
integrated system to ease connecting travel and encourage use of the local air-
ports instead of driving 2 hours to BWI to board aircraft.
Furthermore, these passengers have had the benefit of a fare structure similar
to that of the local service industry, including joint rates to our Allegheny cities
and many offline cities, as well as the discount fares.
I appreciate the concern of the subcommittee as well as the concern of some
persons both within the government and outside, with the proposition that our
regulatory scheme, by restricting freedom of entry or exit, has led to higher cost
air service than need be paid by the travelling public. As stated by one of the
earlier witnesses, the Chairman of the Federal Trade Commission, we have the
most comprehensive, stable air transport network in the world. In his opinion,
however, the co.st has been a fare structure on many routes which is higher than
would prevail if the industry were characterized by price competition and free
entry.
In my opinion, freedom of entry would do nothing to reduce the price of air
travel at the small and intermediate cities in this country. I also believe that
freedom of entry in the larger markets would ultimately seriously impair service
to the small and intermediate cities.
As the subcommittee knows, under part 298 of the CAB's regulations, any indi-
vidual has been free to start an airline and operate at any city in the country on
an exempt basis, provided he utilizes smaller aircraft not exceeding a 30 pas-
senger capacity. Freedom of entry is available, therefore, at smaller and interme-
diate size cities and has been for years. However, the fares charged by most
commuter carriers serving such points is generally higher than certificated car-
riers charge.
The public interest in markets of this type is less likely to be related to the
price of air transportation as it is to the availability. The citizens of northern
New England — Vermont, New Hampshire and Maine — have recently concluded
years of effort before the CAB in an attempt not to get cheaper air travel, but to
get adequate air service. Had freedom of entry been a .success in northern New
England, it would not have been necessary for the CAB to certificate Air New-
England to provide new services at the many communities involved, at a sub-
stantial cost in Federal subsidy.
I have speculated as to what might have been Allegheny's policy toward small,
loss points had we had freedom to exit without CAB approval. It is questionable
whether the Allegheny commuter concept would have been created, and most of
these 27 points would have simply disappeared from the scheduled airline mac.
The CAB has permitted deletion of certificated service at many small points
without replacement services being provided, where poor traffic generation
622
high subsidy were found to warrant such action. While the Board has tended to
require that service be retained in some marginal situations, on balance we do
not believe the present statute requires amendment to liberalize dropping of
points.
Ho much for the smaller city side of the question.
What about the larger communities and city -pairs with greater traffic density?
The CAB recently released a staff study on domestic routes. This Study con-
tains much valuable information on the character of the present system. Par-
ticularly signiticant is the data which shows that relatively few of ihe 58,000
city pair markets generate the bulk of the traffic. Of total revenue passenger-
miles "tO percent are flown in fewer than 1,000 pairs. Of the revenue passenger-
mile potential 30 percent is found in only 70 city-pairs.
Of Allegheny's total system passengers 50 percent enplane and deplane on
just 39 pairs of points— 11 percent of the total of 369 pairs of points served on
a single-plane basis (exhibit 1).
It seems to us that a change in direction which permitted freedom of entry
would in effect be directed toward larger markets and not the balance of the
system.
Some of these larger city-pair markets are served by Allegheny. For example,
Pittsburgh-Chicago, New York-Indianapolis, Pittsburgh-Philadelphia, Boston-
Philadelphia, Pittsburgh-New York, Buffalo-New York, and Rochester-New York
are all in the top 100 ranked passenger markets over 200 miles distance. There
can be no question about the ability of these markets to support competitive serv-
ices. These markets are competitive on all fronts, including price competition.
Each of these markets is not only served by an aircraft schedule serving the
specific city-pair, but is part of a traffic flow on schedules which provide beyond
service to other points. For example, Allegheny's Chicago-Pittsburgh services go
beyond to Allegheny points such as Wilkes-Barre/Scranton, Harrisburg and
Allentown, Pennsylvania. The flights which service the Philadelphia-Pittsburgh
segment also serve cities such as Albany, Hartford and Providence to the east,
Erie, Columbus, Dayton, Louisville and Indianapolis to the west.
In scheduling the system, flight evaluation is keyed to the profitability of the
flight as a whole, since the traffic flows are made up of a series of individual
markets. Thus, a flight serving the Pittsburgh-Philadelphia market may well
serve four, five or six other city-pairs, e.g., a fiight from Providence to Hartford.
Philadelphia, Pittsburgh and Columbus, would serve 10 individual city-pairs.
The ability of the flight to be scheduled, however, frequently is dependent on the
load factor on the critical segment between Philadelphia and Pittsburgh.
Exhibit 2 reflects a profile of the traffic over the Pittsburgh-Philadelphia seg-
ment. Of the 47,391 passengers carried over the segment in July 1974, 33,736 or
71 percent were local Philadelphia-Pittsburgh on and off, and the remaining 29
percent were through passengers. This 263 mile segment, which is also served by
TWA, received 29 daily flights by Allegheny in July, 1974 at an average load
factor of 60 percent over the segment. It is conceivable that if restrictions were
eliminated on entry, this segment could be attractive to a person investing in a
small fleet of jet aircraft, perhaps two or three units to get into business, slash
the price, and attempt to drive Allegheny and TWA out of the market. Alle-
gheny and TWA would then have to choose between meeting the competition by
a combination of price and/or service adjustments.
Exhibit 3 reflects a similar profile of traffic over the Chicago-Pittsburgh seg-
ment. In this case, over 50 percent of Allegheny's passengers come from other
than the local market.
Without question the availability of reasonable, frequent air service between
many other points which are served on a single-carrier or single-plane basi*?
because of Allegheny's ability to schedule frequently over this segment, would
be destroyed. The benefits to local travelers between Philadelphia and Pitts-
burgh are questionable when viewed against the disservice to the large volume
of travelers which are dependent on this segment to support their services.
This subcommittee should pause and reflect before imposing a solution in an
effort to lower prices for some consumers which will in effect destroy the system
or tend to increase the prices paid by others.
It is conceivable that a few larsre concentrations of traffic in this country
would benefit by freedom of entry. I have no doubt that long-haul transcontinental
markets such as Los Angeles and San Francisco to New York, or perhaps a few
of the Chicago markets could conceivably benefit by open entry and a rate war
623
between competing carriers. But I do not think we need expose tlie system to
competiiive destruction in order to achieve some of the results which are
desirable.
We should all be wondering whether under a freedom of entry concept certain
large trunk airlines would find markets of other carriers sufficiently inviting to
warrant a raid.
And we should ask ourselves what the "domino" effect would be. Carriers
forced to withdraw from their markets would look for other piaces to fly the
aircraft in which they have invested. There is obviously no answer to this
Pandora's box.
We urge the subcommittee to take note of the fact that a major reason for the
recent increased demand for low cost air service in the domestic air travel
market has come about because of decisions by the Federal courts which forced the
CAB to review the legality of the youth and family plan fares.^ These decisions
ultimately led to a finding by the CAB that youth fares and family plan fares
were unlawful under the present statute. Allegheny opposed that decision and
believed the CAB couid have found such fares lawful, but the CAB found
otherwise.
A significant reduction in the cost of air travel can be made by the reinstate-
ment of youth and family plan fares under guidelines which would ensure their
being economically viable. This may require legislation by the Congress to permit
the airlines to otter these reduced rate services. Hearings on the Low Cost Air
Transportation, S. 421, introduced by Senators Cannon and Kennedy, will pro-
vide a forum for reviewing this subject. It will also provide an opportunity to
consider offering reduced rate travel to our senior citizens. Allegheny supports
these objectives.
A major burden on the traveler is being imposed due to the tremendous
increase in the cost of jet fuel. Allegheny's projected 1975 fuel costs per gallon
are approximately 110 percent higher than 1973 levels. Fuel accounts for 14 per-
cent of our operating expenses. With the magnitude of increases now being
experienced, there is no way to maintain the price of air travel at a lower level
by adding more airlines. The answer is for the federal government to control the
price which is paid for the fuel. As a matter of fact, we see a rather serious
incompatibility between the government's fuel conservation effort and the push
for freedom of entry and exit in public transportation by air.
We also understand that you will be considering other possible ratemaking
policy matters later in this hearing which could increase the ability of scheduled
carriers to adjust fares to meet market demand.
Improved efficiency at Federal, State and local governmental levels in the
operation of the ground portion of the air transport system could be a direct
contributor to reducing the price of air travel. Airport maintenance and operating
costs as well as capital plant costs have risen rapidly as a result of inflation
and environmental impact problems. The airlines are expected to support these
increa.sed costs through their use fees. Additionally, airport operating delays
continue as a result of still-to-be-achieved efficiency in the air traffic control
system and this directly impacts airline operating costs.
Obviously, there are things the airlines themselves must do to control the cost
of air travel. We must reexamine the technological side of our business to avoid
premature obsolescence. While unit cost improvement which came about through
the jet development obviously has been a tremendous boon to the country, future
development must proceed on the theory, of improving the productivity of the
aircraft without necessarily increasing the size of the machine.
If the Congress adopts a program which looks toward allowing freedom of
entry, the airlines will be faced with the impairment of the stability of - its
invested capital and the ability to raise long-term funds to permit orderly growth.
Such financial instability would l)e totallv inconsistent with the funding of our
air transport system by private canital. While those who advocate freedom of
entry are honing for more free enterprise, more competition and lower prices,
the frnit of this effort could well be a system of nationalized air transportation
funded bv the Government for which the country would pay an enormous price.
The Congres*! should be extremely concerned that this constant searchmc for a
lower priced product may have an extremely adverse impact on the ability of
1 T^nvurnvfivptttnl nim Sliiifrm . Tnr v. C.A.P.. SS.*? F.2rl 4fiR .5*^h Ctr., iQfiT fvonrti rnresi :
Trnihrnj/s of Mew England, Inc., et aj. v. C.A.B., 412 F.2d 926, 1st Clr., 1969 (family
fares).
624
the industry to plan its growth on an orderly basis and to be funded at reasonable
costs. One of Allegheny s large expenses is for interest on the debt which is
required to finance modem equipment. Last year's interest expense exceeded $12
million. I would think that the degree of risk in a system which required airlines
to fend for themselves with no security of profitable route services would create
a tremendous cost burden on the system.
With regard to artificial restraint of competition by means of the capacity
agreements which have been entered into by some carriers, we understand the
motivation which has led to approval of these agreements. However, Allegheny
has opposed this philosophy since it was first considered by the CAB. We think
it is a proper matter for legislative review.
In summary, we at Allegheny do not believe that freedom of entry is really
the issue. There are numerous certificated airlines available to do the job, particu-
larly the local service airlines and smaller trunks. We are willing to invest
money to expand service, and at reasonable prices. Since the late sixties, as a
result of the CAB's route policy which permitted the local service industry to
expand, the CAB has created, in effect, eight regional trunklines who ettectively
compete in many markets with the large carriers.
While urging that the Congress not disturb the sections of the Act dealing with
route entry and exit, we do so in full recognition that there are some things
which do need attention, and in which Congressional interest can be beneficial.
One deals with the vexing problem of the so-called "route moritorium" which the
CAB imposed by indirection commencing in 1970 and 1971.
The downturn in the economy which occurred at that time was properly recog-
Jiized by the CAB as requiring a slowdown in awarding new route authority.
To the extent there have been excessive route awards in recent years, they have
been in certain long-haul situations, such as the proliferation of carriers in the
Hawaiian market. But at the other end of the spectrum there remain many short
and medium haul markets under 700 miles where monopoly has been permitted
to remain even where service has decline to inadequate levels.
This is not the proper forum for arguing cases which are in the CAB's hands.
But I would like to give the subcommittee some examples of the type of situation
we are concerned about. In December 1971 Allegheny filed an application under
the CAB's subpart M rule for removal of a restriction which prevented nonstop
flights by Allegheny between Louisville and Memphis — an American Airlines
monopoly where service has declined to once or twice a day. American objected
to our entry. The Board has been silent since 1971 on the application.
Since 1972, the Board has denied a hearing on three other Allegheny applica-
tions to remove restrictions which prevent Allegheny from competing on an equal
basis with American in monopoly situations : Cleveland-Cincinnati, Cleveland-
Louisville, and Cleveland-Rochester. Yet these cities look to Allegheny for relief
from American's inadequate service. And in two of the markets — Cleveland-
Cincinnati and Cincinnati-Washington — TWA sits on dormant rights which it is
free to exercise at any time, but neglects to do.
There are other examples of this type of situation which require a shift in
CAB policy for correction. Trunklines should not be permitted to sit on dormant
grandfather rights which another carrier could use to the benefit of the public
as well as itself.
The correction lies not in a change in the law, but perhaps in more regular
oversight hearings by the appropriate committees of Congress. We have today
a great flexibility in the statute for changing the route structure by new route
awards under the broad umbrella of public convenience and necessity, as well as
through mergers, suspensions and route transfers. Administration of the statute
has varied according to the views of the members of the Board. But that seems
to reflect the intent of Congress that there be a 5-man commission reflecting a
variety of points of view. The Congress wisely intended to leave a good deal of
discretion in this commission. But the Congress did intend that the commission
exercise the discretion in a way in which the public could challenge through the
administrative process, and the courts if need be.
As I understand the recently released route study of the CAB's Bureau of
Operating Rights, the Board is considering new rules which will deal with the
grant of hearing priorities. In addition, the Board is considering new standards
which will deal with grant of applications. Allegheny does not necessarily sub-
scribe to the standards and guidelines which are being suggested and we will file
our comments in due course.
625
It appears to us, therefore, that while the CAB has been less than responsive
in the past few years in certain areas related to service deficincies, it is moving
to correct the situation by appropriate proposed rulemaking. We believe the Con-
gress should urge the Board to utilize existing statutory authority to grant com-
petitive authorizations in the many monopoly markets which can support service
by two carriers. In this way the CAB would be providing an opportunity for a
new carrier to improve the service by adequate scheduling, which is a more
urgent need in many market pairs than a need for cutrate service.
In conclusion, we believe that if the Congress were to express its opinions with
regard to the various matters which are under consideration on a more frequent
basis, and were to utilize its oversight authority more directly, many of the
problems which have surfaced in the last few years would be dissipated within
a reasonable period of time, and without tremendous distortion of the system.
Certainly there is no need to disrupt well-established means of providing service
to the great multitude of markets in this country in order to permit unrestrained
competitive influences in a handful of markets which could conceivably benefit
from open entry.
626
Exhibit 1
50% OF ALLEGHENY'S PASSENGERS ARE GENERATED
IN ONLY 11% OF THE CITY PAIRS IT SERVES
Allegheny's On Flight 0-D Passengers
In Its Top 39 Markets
Allegheny's Total On Flight 0-D
Passengers
Allegheny's Total Or Flight 0-D
Markets
Passengers In Allegheny's Top 39
On Flight 0-D Markets As a Percent
Of Total Allegheny System Passengers
Allegheny's Top 39 Markets As A
Percent Of Its Total On Flight
O-D Markets
Source : Company Records
627
Exhibit 2
29% OF ALLEGHENY'S PASSENGERS ON ITS
PITTSBURGH-PHILADELPHIA NONSTOP FLIGHTS COME FROM OTHER
THAN THE LOCAL MARKET
(Pittsburgh-Philadelphia Nonstop Flights - Month Of
July, 1974)
Market*
Percent
Of Segment
Passengers In
Segment Passengers Passengers In
Local Beyond Total" Beyond Markets
Local Market
Pittsburgh-Philadelphia
Beyond Markets
Pittsburgh-Albany
1,961
-Boston
2,232
-Hartford/Springfield
265
-Providence
234
Philadelphia-Columbus
1,446
-Dayton
894
-Erie
626
-Indianapolis
796
-Louisville
2,990
-Memphis
176
-Nashville
41
-St. Louis
412
Other Markets
(Beyond Both
Philadelphia
And Pittsburgh)
Total 33,736 13,655 47,391 28.
*Those markets served on a single-plane basis by flights operating
nonstop over the Philadelphia-Pittsburgh segment.
SOUliCE: Company Records,
628
Exhibit 3
MORE THAN HALF (51%) OF ALLEGHENY'S PASSENGERS ON
ITS CHICAGO-PITTSBURGH NONSTOP FLIGHTS COME FRCW OTHER THAN
THE LOCAL MARKET
(Chicago-Pittsburgh Nonstop Flights - Month of July, 1974)
Percent
Of Segment
Segment Passengers Passengers In
Local Beyond Total Beyond Markets
Local Market
Chicago-Pittsburgh 14,023
Beyond Markets
Chicago-Harrisburg/York 8,094
-Wilkes Barre/Scranton 5,115
-Allentown/Bethlehem/Easton 1,014
-Other 305
Total 14,023 14,528 28,551 50.9%
*Those markets served on a single-plane basis by flights operating
nonstop over the Chicago-Pittsburgh segment.
Source: Company Records
629
BlOGBAPHY OF EDWIN I. COLODNY, EXECUTIVE ViCE PRESIDENT, MARKETING AND
Legal Affairs, Allegheny Airlines
Edwin I. Colodny joined Allegheny in 1957 as assistant to the president and
later served as company secretary, vice president-legal affairs and economic
research, senior vice president of the same division, and executive vice presi-
dent-legal affairs and marketing services, prior to assuming his present responsi-
bilities in 1973.
Colodny was formerly aflBliated with the Office of General Counsel, General
Services Administration ; OflBce of the Judge Advocate General, while a First
Lieutenant in the U.S. Army ; and the Civil Aeronautics Board as a trial attorney.
Bureau of Air Operations.
Active in industry affairs, Colodny serves as chairman of the route policy
committee of the Association of Local Transport Airlines and on several Air
Transport Association committees.
He is a native of Burlington, Vt., and received his A.B. degree in 1948 from
the University of Rochester. He earned his LL. B. from Harvard Law School in
1951.
Prepared Statement of' Andrew de Voursney
THE ISSUE of controlled ENTRY
United Air Lines welcomes this opportunity to contribute its views to the sub-
committee's inquiry into the economic regulation of the airline industry. As the
nation's largest airline serving 92 airports with over 1,400 daily flight departures,
employing some 49,000 persons, consuming nearly 1.5 billion gallons of jet fuel per
year, carrying over 31 million passengers on both scheduled and charter service
last year, and responsible for the productive use of .$3.5 billion in fixed assets fi-
nanced by lenders, lessors and our 52,000 shareholders. United has an enormous
commitment to the nation's air transport needs and a very large stake in the
economic regulation of our industry.
At the outset we think that any system bears reexamination, including the cur-
rent inquiry into economic regulation. In this regard, we supported the creation of
a nationarcommission on regulatory reform. We also recognize that there are
areas in which less regulation would be both helpful and desirable. These should
be carefully explored on a step-by-step basis.
At the same time, we wish to emphasize that the issues addressed by the sub-
committee, especially (he is.«ue of regulation of entry and exit, should not be
treated merely as academic issues in a purely theoretical context. We cannot
turn back the calendar to 1938 in order to speculate on how the airline industry
might operate today had we chosen differently in writing the original Act which
has governed our economic regulation in the past 37 years.
ACHIEVEMENTS OF THE EXISTING U.S. DOMESTIC SYSTEM OF REGULATION
We must look to the present and to the future, recognizing the billions of dol-
lars (f iiive-rme't sr ' ady in pace and the hundreds of thou'-'ands of persons
whose livelihood is dependent on the existing airline system which today provides
the best air transportation service in the world— by any standard of measure-
ment one may choose. Above all we must look at the national interest served
by the air transport industry— the primary mode of intercity common carrier
passenger travel.
Consider the following major economic characteristics of our existing system :
1. All parts of the nation (over 500 airports) receive convenient, safe, and
reliable scheduled air service. Equipment maintenance standards are high ; flights
generally operate on time, except for severe weather problems ; complicated itin-
eraries are handled routinely, and airline passengers expect and usually receive
friendly, courteous attention from airline employees.
2. Airline fares and rates for scheduled passenger and cargo service, have
tended to rise much less than other prices over the long run, although they have
had to be increased significantly in the past year to offset the rapid rise in fuel
and labor costs. The average domestic fare per mile flown rose 23 percent from
1964 to 1974 while the consumer price index rose 59 percent. During this same
period, per capita disposable personal income rose 102 percent and ability to
purchase air travel increased significantly. Furthermore, domestic air fares in
the U.S. are significantly lower than fares for service in other parts of the world.
630
For example, the coach fare from London to Rome, a distance of 892 miles is
$178.10. A comparable trip in the U.S. from Chicago to Denver costs only $85.00
for a you-mile trip. Other examples inciude : BaugKok-Siugapore (o97 miies) —
$125; Beirut-Teheran (908 miles)— $128; and Buenos Aires-Sao Paulo (1052
3. The direct subsidy cost to the taxpayer is quite modest— under $70 million a
year, and confined to eight regional airlines and three Alaskan carriers. These
payments insure that many small or remote communities are connected to the
national airline network. This airline subsidy is only about 20 percent of the
$350 million federal subsidy proposed for Amtrak rail passenger service m the
coming fiscal year. The emergency aid to the Penn Central may also approxi-
mate $350 million, while the maritime operating and construction subsidy will
be $500 million per year.
4. The existing system retains an opportunity for individual small entre-
preneurs to enter the air transportation business as air taxi operators and third-
level commuter airlines which fill the role of broadening the scope of smaller city
services available to air travelers. One such airline, Air New England, recently
"graduated" to the status of a fully certificated carrier.
5. Alongside regular scheduled services, specialized services have grown up
for the price sensitive pleasure traveler who doesn't want all of the service fea-
tures designed into the basic system and can thus take advantage of the econ-
omies possible in group or charter travel. Uuiteu in the largest domestic charter
operator with 53 percent of domestic charter traffic. United has consistently en-
couraged the development of this market segment, including liberalizing of
charter regulations to make charter service even more widely available. Spe-
cifically, United is on record in support of the CAB's recent efforts to liberalize
travel group charter rules and establish special event charters and one-stop in-
clusive charters. United also favors a one-year extension of affinity charters, less
restrictive travel limitations and payment of commissions to travel agents for
sales of the new form of charters under consideration.
THE FUTURE AIRLINE ENVIRONMENT
In considering regulatory reform, we must evaluate the changed economic en-
vironment in order to determine what changes are needed. United' s planning for
the next 5 years recognizes a number of changing conditions which will aftect our
operations and services. Briefly, these are as follows :
1. The economy will continue to experience a higher level of inflation than in
most of the postwar era, while also suffering greater unemployment and slower
economic growth. The inevitable consequence for the airline industry will be
relatively slow growth of demand for air travel. In 1974, scheduled air travel
rose only 2.4 percent, in good part because of diversion of auto travel to airlines
during the gasoline shortage. We now expect a decline in traffic in 1975 and
modest growth of some 5 to 6 percent per year in the 1976-1980 period.
2. Although the control mechanisms to be used are not yet designed, we are
certain that energy conservation will be a dominant factor in airline planning
for at least the next five years. A variety of steps have already been taken by the
airlines to conserve fuel; for example, Uniteds 1974 fuel consumption was 11
percent less than in 1972 and 13 percent less than in 1973. We expect to continue
our fuel conservation program both by operational procedures and by restraint in
adding scheduled fiights.
3. Several major hub airports and sectors of the airways system are so near to
their practical capacity as to constitute significant constraints on future airline
growth. They include the New York, Chicago, Washington and Atlanta terminal
areas. The costs of new airports and facilities are so high that utmost caution
must be used in planning and making financial commitments to construction pro-
grams. We must be certain that we avoid the costly waste of prematurely ex-
panding the system before we are fully utilizing the capacity of the existing air-
port-airway system.
4. Finally, United's planning reflects the need for maximizing operational effi-
ciency which is so necessary if we are both to hold down the level of airline
prices and to continue to provide an adequate level of service despite constraints
on fuel availability and airport capacity. Specifically, we anticipate a need to
increase use of larger airplanes, to increase seating capacity of all airplanes, to
increase average daily hours of u.se of airplanes, and to increase the load factor,
or seat occupancy percentage. These changes will directly benefit the public by
631
providing a continued higli standard of service at lower prices than would other-
wise be possible. It will be extremely difficult to accomplish such changes in the
existing competitive environment without the active leadership and support of
government. Stimulating a flood of new capacity by relaxing regulation of entry
could make these productivity gains impossible to achieve.
PROBABLE CONSEQUENCES OF DEREGULATION
It is recognized that air transportation is not a so-called "natural monopoly"
which requires economic regulation in the sense of a monopoly public power
utility. Air transportation initially was placed under regulation to insure that air
service would be provided which was adequate to meet the needs of a modern
economy and to be certain that all sections of the nation would receive the bene-
fits of air service. It also was important to prevent destructive competition
among the carriers, a consideration amply supported by history. Such destructive
competition would pose problems in the areas of safety, public convenience,
financial stability and continuity of service. The Federal Aviation Act specifically
directs the CAB to consider "as being in the public interest * * * the encourage-
ment and development of an air-transportation system properly adapted to the
present and future needs of the foreign and domestic commerce of the United
States, of the Postal Service, and of the national defense" * * * and "competition
to the extent necessary" to assure such a system.
There are now numerous propsals to scrap this system and permit free entry
and exit into and out of the industry. It is alleged that the increased competi-
tion which would result would lead to a more eflScient system with lower fares
and rates for travelers and shippers. It is assumed that pricing freedom would
necessarily accompany freedom of entry and exit.
In examining the question of regulation we should try to foresee what would
actually occur if deregulation were to take place. It is difficult to do since there
is no nation in the world which has an unregulated domestic public transport
system. Indeed, the prevailing pattern is for outright nationalization, partial
public ownership, or much more restricted competition than exists in the U.S.
However, a generalized projection of the results of deregulation can be made.
In our view the first development would be greater concentration of service
and intensified competition in large, high-density markets. Existing airlines and
operators would seek to gain po>~itions in the largest markets ; many would be
tempted to offer service at prices below cost in order to obtain a foothold in these
markets. Initially, frequency of service would increase and fares might be
lower — but carrier profits surely would vanish.
We can draw a parallel between freedom of entry and the history which sur-
rounds the transpacific route ca'-e. Prior to the final decision in this route case in
the summer of 1969, three scheduled carriers had served the route between the
Mainia'Hl and Hawaii. Thry had provided high qualitv service at very low
fares. United's average coach rate per mile between the West Coast and Hawaii
in 1968 was 3.8 cents: the lowest promotional fare was 2.2 cents per mile.
United's operating profits were reasonable, aggregating ,$24.9 million on revenues
of $121.3 million. Following the award and the initiation of new competing serv-
ices, United's profit history is as follows :
1969— still a profit of $25.6 million.
1970— loss of .$6.7 mi"ion.
1971— a very substantial loss of $18.0 inillion.
1972— continued loss— $14.6 million.
1973— a profit of $13.3 million on revenues of $159.4 million.
Results for 1974 are not yet available. In the transpacific case, we have a very
good preview of what would happen if freedom of entry were permitted.
A second immediate effect wouM be the neslert or abandonment of economically
marginal routes : smaller cities, low traffic density sectors, etc. If subsidies to re-
gional carriers were abandoned along with freedom of exist, many communities
would risk immediate loss of service, or at least a major downgrading of quality
of service. To retain service, some new system would need to be devised such
as the contract concept advanced by former CAB chairman Secor Browne. But it
would have to be in place immediately to prevent abandonment of the small com-
munities. It is questionable whether such a system is better or more economical
than that we now have. Airport-airway congestion problems would be severely
impacted by deregulation. Increased competition in major markets would take
632
the form of higher frequency of scheduled flights, using smaller less fuel efficient
and less economic airplanes crowded into periods of peak demand. Until addi-
tional airports could be built to handle the increased frequency of schedules, local
allocation systems would be needed to ration the limited number of landing and
takeoff times. Such allocation programs are in use today at O'Hare, La Guardia,
Kennedy and AVashington National airports with overall ceilings on the number
of operations per hour. A proliferation of new carriers and new gate and airway
demands would greatly expand the rationing process and place life or death regu
latory power in the hands of local airport authorities. The construction of new
and very costly duplicate airports to serve major hubs would be needed to handle
the added flights. The resulting economic waste would eventually lead to higher
fares, since passengers ultimately must pay for the expen.'^ive new facilities and
the wasteful, excessive flight schedules.
Indeed, there is no certainty that costs could be reduced or average fares
lowered significantly even in the short run. Existing airlines have high fixed
costs: airplanes, computer systems, terminals, maintenance facilities, training
centers, and heavily unionized work forces with restrictive work rules. It is con-
ceivable that new operators could enter the business with lower fares based on
use of older aircraft and nonunion employees earning lower salaries and with
greater flexibility in work assignments. Assuming some could gain access to ma-
jor markets and survive, it is reasonable to expect that they would soon become
unionized and would move to upgrade equipment. For example, PSA has followed
this path of unionization and acquisition of larger equipment ; it is vigorously
trying to raise the level of California intrastate fares to offset rapidly rising
costs. The intrastate economy fare between Los Angeles and San Francisco has
risen 21.7 percent since 1969 and PSA has a pending application for a further 13
percent increase.
Meanwhile, the present carriers either would have to meet the fares of cutrate
operators at a loss or puUback service and abandon the market. The public would
lose long established services and airline employees their jobs.
The matter of safety standards cannot be treated lightly. Despite some recent
criticism, the scheduled airline industry has a genuine dedication to safety
which transcends economic concerns. Safety is a prerequisite to lasting com-
mercial success. Frankly, the experience of other, less regulated sectors of avia-
tion does not provide much comfort as to the pos.^ible safety consequences of de-
regulation. A recent study of 1974 worldwide accident rates indicats that the
accident rate per departure for the largely unregulated nonscheduled airlines
was seven times the rate for scheduled carriers. Historically, both .scheduled and
supplemental U.S. airlines have enjoyed superior safety records compared with
the rest of the world. History teaches us that marginal, or cutrate, operators
may be tempted to cut corners on safety when under economic pressure.
The nature of the air transportation industry which would finally evolve from
deregulation is highly uncertain. However, it is clear that the certain short run
result would be a protracted period of great instability. Weak carriers would
fail or be forced to shrink the scope of their operations. Many airline workers
would lose their jobs. Many mature U.S. industries are dominated by a few firms ;
this could well be the long run pattern for a deregulated airline industry.
Under these circumstances, economic regulation probably would not di.«appear.
Rather than being centralized under the CAB, it would pass into other hands.
For example, there would be de facto regulation by airport operators through
the allocation of airport gates, leases and landing rights. The FAA would allocate
available airspace. Under today's conditions, FEA would be establishing policy
through allocation of scarce fuel supplies. Finally, the Antitrust Division of the
Department of Justice would be concerned with increased concentration of
economic power which might result. We could evolve into a system of regulation
by litigation.
PROBLEMS UNDER DEREGULATION
The lack of central regulation and resulting instability would have a number
of unfavorable consequences. These problems would require an enormous effort
to replace existing efticient systems which have produced the industry we have
today with new methods applicable to a changed environment.
Of paramount importance would be the future of the highly efficient busines^s
systems created by the regulated airline industry under CAB authority. All ele-
ments of transacting airline business : reservations, ticketing, connecting service,
and baggage handling, would be affected by deregulation. What would happen to
tariffs and the tariff system? The potential for price discrimination, now illegal,
633
would be introduced. With constantly changing prices, great variation among
carriers, price deals, and possibly no tariffs — what would happen to the thou-
sands of independent travel agents who now sell nearly half of U.S. air travel?
How could they construct a ciienfs itinerary in advance with any confidence?
How could they quote fares with confidence? Could these small entrepreneurs
survive or would they be overwhelmed by larger firms with many branches who
could create close ties with individual carriers in the absence of restrictive
regulation.
Frequent fiyers place great importance on the convenience and efficiency of-
fered by the existing system. The ability to write a ticket to any location on
earth, to check baggage through the final destination, to change complex plans
with a single telephone call is essential and would need to be retained somehow
under a deregulated system. Under a situation of considerable carrier turnover,
this could be difficult.
We believe the subcommittee is aware that through the air traffic conference,
a subsidiary organization of the Air Transport Association created to coordi-
nate the complex elements of travel arrangements by cooperative action of the
carriers, the domestic airlines have entered into hundreds of technical agree-
ments on trade practices which are filed with the CAB covering such diverse sub-
jects as tariff filing, tariff enforcement, interline connecting times, timetable pub-
lication, interline ticketing, carriage of physically handicapped persons, stand-
ardized public address announcements, educational familiarization programs for
travel agents, tax collection, control of ticket stock, baggage handling and trac-
ing, reservations procedures, travel agency agreements, and computer
applications.
The same requirement for efficient coordination applies to the postal service
and air freight shippers. At this time it is inconceivable that international air
service could be deregulated ; the complex interface of domestic and international
services would need to be preserved. By its very nature, the airline industry
requires a high degree of cooperation among its participants ; such cooperation
would appear to require some degree of regulatory supervision and support.
Aside from these operational efficiency problems, a deregulated system would
impose severe difficulties in planning for those activities and resources with long
lead times. The stability and continuity of the existing system provides a reason-
ably reliable basis for forecasting future needs for airports and other facilities
with long planning lead times and high-capital costs. Airline staffs now play
an important role in forecasting volume data for this planning effort and airlines
provide guarantees for the financing of many airport improvements. With an
uncertain environment, could forecasts be made with any confidence and would
such guarantees be feasible?
Similar planning difficulties would affect the aircraft and engine manufacturers.
Most major new technological developments and new aircraft models have been
launched with the support of substantial purchase commitments by the major
airlines. Today United is working closely with Boeing and United Aircraft in
the design specifications of a new version of the highly successful 727 jet, the
dash 300, which promises greater fuel efficiency and quieter operations — both
clearly in the interest of airline passengers and communities. Who could afford
the sort of long range study effort and massive capital commitment associated
with this sort of activity if the air transportation industry is placed in a highly
uncertain transitional posture by deregulation? Would aerospace manufacturers
invest in R&D efforts to sell to a fragmented and unstable market?
The possibility of the development of capacity shortages under a policy of free-
dom of entry and exit also is significant. The Federal Aviation Act provides for
an adequate supply of air service regardless of economic conditions. If carriers
were unwilling or unable to make lasting service commitments, vital services
could disapi>ear during recessions and return very slowly during recovery. Serious
service imbalances could occur at times. If a carrier were to fail for any reason,
communities would face serious service disruptions and potential economic hard-
ships from which they now are protected.
The problems of uncertainty and instability raise the difficult question of how
the industry would be able to finance future growth. Would it be forced to rely
on banks and other financial institutions to acquire the bulk of airline equipment
and bear a.ssociated financial risks, and then lease aircraft to airline operators?
Perhaps, this solution would be feasible: however, it raises questions in a very
sensitive area concerning the proper role of such financial entities in the control
of other businesses, particularly one so vested with public interest considerations.
634
In summary, we foresee many risks and new problems resulting from any
abrupt deregulation of the airline industry. We ask the subcommittee to place
these considerations on the other side of the scale to compare them with any
prospective benefits which might be gained. If we take into account the indis-
putable fact that our present system is superior to any exij^ting alternative sys-
tem, is it in the public interest to abolish regulation of entry and exit for the
uncertain promise of lower fares? Might we develop a new system which would
not only be ineffiective in improving the domestic airline system but which,
through developments which cannot be clearly foreseen, could cause a deterior-
ation in tliat system ?
BUREAU OF OPERATING BIGHTS ROUTE POLICY STUDY
In addition to a general discussion of freedom of entry, the subcommittee has
requested United's views on two specific matters : the CAB Bureau of Operating
Righf.s study of domestic route policy, and the Boards po'icy of rcstiai.it in
route matters which has been followed in recent years. With respect to the
former. United is now in the process of preparing its formal response to the
CAB which will be submitted by March 1, 1975. Copies of our response will be
furnished to the subcommittee. As a matter of principle, United supports the
concept of guidelines governing route proceedings analogous to the guidelines
recently established in the domestic passenger fare investigation. We also believe
it advisable from a policy viewpoint to establish some type of public forum to
permit complete, open discussion of the issues associated with such standards.
Several precedents exist for public hearings on major policy considerations in-
cluding fact-finding hearings related to the desirability of establishing local
service airlines and the preliminary investigation of large irregular air carriers.
We believe it will not be necessary to have a prolonged litigated proceeding but
we believe something broader than normal ru'eniaking is needed to exj)lore
adequately the policy issues. We commend the CAB for starting the process by
making the study and we expect it will proceed expeditiously.
CAB POLICY OF RESTRAINT
Regarding the CAB's policy of route restraint, it is clear that the Board has
been acting in the best interest of both the public and the carriers. In its treat-
ment of individual cases, the Board openly stated its views on the need for
restraint and pointed to a variety of reasons related to the economic health of
the industry and the uncertain national economic outlook. To our knowledge, this
policy has never been formally challenged as a policy. While questions have been
raised with respect to specific cases in question, subsequent economic develop-
ments certainly have confirmed the wisdom of this policy from an economic
standpoint. Absent this policy, either the carriers would suffer staggering losses
resulting from the intrusion of new carriers, or fare levels would have to increase
substantially.
UNITED' S PROPOSALS FOR IMPROVEMENT OF REGULATION
We recognize the system is not perfect. But we suggest that we seek means by
which the quality of regulation under the CAB may be improved rather than
scrapping the entire system. United favors evolutionary changes and reforms to
achieve the goals set forth in the original Act in 1938. We believe, for example,
that the airlines need more freedom within the boundaries of the regulated
system to exercise their business judgment. A case in point is the recent estab-
lishment of a mileage limitation on the bicentennial fare ; we feel that this is a
case where the CAB substituted its business judgment for our own, and we
favored no limit on the applicability of the fare in order to provide maximum
benefit to the traveling ijublic.
For many years we have felt that the public deserves a higher quality of pro-
fessionalism on the part of government regulators. Is it possible to devise a set
of objective standards for membership on regulatory commissions? Could the
Senate expand the "advise" portion of its "advise and consent" responsibilities?
In response to question 39 of the subcommittee's questionnaire we suggested
some procedural improvements which United believes should be implemented.
Briefly, these were as follows :
1. Reduce the size and scope of information requests from bureaus of CAB
in formal proceedings. Preparation of responses is burdensome and time-
consuming.
635
2. Reduce the length of hearings by cutting down on excessively detailed cross-
examination.
3. Provide greater time for filing responses to applications, petitions, motions,
etc. Time now available is ordinarily inadequate to permit reasonable evalua-
tion of issues and preparation of answers. The CAB is thus deprived of the best
possible arguments and evidence.
4. Expedite the hearing process and try to avoid hearings where possible with-
out prejudice to parties' rights to due process.
5. Change the tariff filing procedure by statute to require 45-day notice and
CAB action within 30 days to provide 15 days for orderly implementation.
United also is supporting a number of significant changes related to the regu-
lation of charter service which will expand the potential benefits to the public
without impairing the quality of scheduled service. United strongly believes that
charter service should be encouraged to serve that segment of the market whose
requirements are different from scheduled service — and thus to offer safe, reli-
able service to the public at the lowest possible cost. However, we do not believe
the proper path to this goal is the legislative one. CAB regulation now permits
experimentation to test the feasibility of new concepts such as more liberal
one-stop inclusive tour charters without the inflexibility involved if such changes
were legislated. That freedom should be used before the rigidities of a legislative
concept are imposed.
In conclusion, we wi.sh to reemphasize United's vital interest in the proceed-
ings of this subcommittee as well as other investigations of a similar vein. We
also wish to stress our willingness to cooperate in bringing about changes which
will produce genuine public benefits ; our record is clear in this regard. United
is not an implacable defender of the status quo. However, we believe it would be
unwise to endanger the quality of an excellent system in the pursuit of hypo-
thetical gains which may be unattainable in actual practice. The overall record of
the airlines under CAB regulation is one of which the country can be proud. It
represents a solid ha.se for future improvement of the system. It should not be
discarded without a great deal of careful weighing of the potential benefits
against the apparent risks.
United Aib Lines,
Chicago, III., Fel. 28, 1975.
Hon. Edward M. Kennedy,
U.S. Senate,
Wa.^hington, D.C.
Dear Senator : During my testimony on February 18, we discussed the subject
of internal cross-subsidization of unprofitable routes. I indicated that we would
provide additional information on the scope of such subsidization which existed
on United's route system in 1974 — a year of relatively good earnings for the
company. We have compiled the information below from internal company
records using planning standard cost rates and average revenue rates, which
closely approximate actual results.
All regular scheduled passenger operations of the company have been separated
into two categories : those airport pairs on which we failed to earn a profit before
federal income tax. and those on which we did earn a pretax profit. This analysis
compiled the results for all nonstop flights between a given pair of airports, in
l)i)th directions, to determine the profitability category ; some of the individual
flights serving an ain>ort pair might be unprofitable even though the total of
all flights was profitable, and vice versa". Similarly, some airport pairs are un-
profitable in certain months of the year and profitable in others. The breakdown
shown below reflects full year results of the sum of all flights operated in a
given market.
1974 RESULTS OF SCHEDULED PASSENGER OPERATIONS
Unprofitable Profitable System
city-pairs city-pairs total
Number of airport pairs 163 164 327
Revenue (in millions) .._ $462.7 $1,556.9 $2,019.6
Expense (in millions) $604.7 $1,226.0 $819.7
Profit before tax (loss) ($142.0) $330.9 $188.9
On-board passengers (in millions) 13.8 20.0 33.8
Each of the 20 million passengers in the profitable markets provided an inter-
nal sub idy of $7.10 to offset the $142 million loss on the unprofitable routes. This
is equivalent to approximately 9 percent of the average revenue per passenger
on the profitable routes. In order for the unprofitable routes to reach the break-
even level, a revenue increase of 30.7 percent would be necessary. A fare increase
of this magnitude would almost certainly depress the level of traffic in those
markets. The existence of a substantial level of internal cross-subsidization
clearly and directly benefits approximately half of the markets served by United.
Further analysis revealed that 75 of the 163 unprofitable airport pairs involv-
ing 3.2 million passengers failed to produce sufiicient revenue to cover their direct
variable cash costs. These markets consist largely of short haul feeding or
connecting segments which provide important support for the longer haul flights
but are not credited with this support revenue by the accounting system. How-
ever, if these segments were not an integral part of a larger system, they would
probably receive little or no scheduled airline service since the purely local
traflic demand is too small to support such service.
I hope this simple analysis helps shed added light on the subject of internal
cross-subsidization of unprofitable route segments. We recognize that implemen-
tation of phase 9 of the CAB domestic passenger fare investigation decision will
help alleviate this situation but will not end it.
We would be pleased to cooperate further with the subcommittee on this vital
subject which is of great interest to the management, employees and share-
holders of UAL, Inc., as well as to the public.
Sincerely,
Andrew M. ue Voursney,
Oroup Vice President of Finance and Planning.
[Note. — The following letter was submitted to the subcommittee by
United Air Lines to update and/or replace the data submitted in the
letter of February 28, 1975, as printed above.]
United Air Lines,
Chicago, III., Apr. 29, 1915.
Mr. Stephen M. Breyer,
Subcommittee on Administrative Practice and Procedure,
Washington, D.C.
Dear Mr. Breyer : I am enclosing a detailed listing of our analysis of United's
unprofitable routes in 1974 as we discussed by telephone. Section 1 covers 58
city-pairs on which revenue failed to cover incremental operating costs ; this list
corresponds to the 75 city-pair list with which you were working originally. The
17 markets which we excluded from our analysis were not scheduled on a year-
round basis and, in most cases, received sparse or sporadic service. We believe it
is more reasonable to look only at those markets which receive regular scheduled
service for most or all of the year. Incidentally, three markets you included in
vour "retain service" category should be listed among those where service has
i)een discontinued; these are Baltimore-Philadelphia, Birmingham-Knoxville,
and Honolulu-Hilo.
Section II of the analvsis covers those city pairs where revenue exceeded in-
cremental costs but did not cover fully allocated costs. These markets are certainly
those which would come under close scrutiny as to the wisdom of continuing serv-
ice if exit were permitted, inasmuch as it w^ould not appear economically justified
to purchase replacement equipment on which an adequate return was not being
earned. It is our working assumption that long run incremental costs (the theo-
retical basis for capital investment decisions) are equal to or greater than current
fully allocated operating costs including overheads. Our internal cost studies indi-
cate that overhead cost^ tend to vary in the long run in the same way as short
run incremental costs.
Some technical definitions may assist you in interpreting the attached table.
Contribution— Total revenue less incremental cash costs (based on system
average costs). . , ,.
PBT (Profit Before Tax)— Total revenue less fully allocated costs including
interest but excluding income taxes.
Retained for Traflic Control Purposes— City-pairs where feed traflSc to other
segments is significant but is not reflected in market profitability.
Retained to Combine Market.s— City-pairs where aircraft are routed to com-
bine two cities on a single flight but where local traflic is not significant.
637
Retained for Operational Routings — City-pairs where primary purpose of
fligtits Is equipment positioning.
Retained for Future Profit Potential (or Policy)— City-pairs which are judged
to have good future profit potential but are current losses due to temporary prob-
lems or unusual circumstances ; or, where the market is of such strategic signifi-
cance that company policy dictates continued operation despite unsatisfactory
economic results.
I am certain you understand that this classification exercise is a judgmental
process and reflects a conscientious effort by United's scheduling experts but is
by no means based on the sort of exhaustive economic studies which we would
pursue in the event we were faced with an actual decision. I am satisfied that it
also represents our unbiased opinion, not slanted for political impact. Because of
the sensitive nature of these data, we are requesting that no details regarding
specific city-pairs be released to the public.
In summary, the attached analysis is our approach to answering the question,
"What United markets would not be served if you were free to abandon unde-
sired routes?" We agree that in some cases, such as Atlanta-Birmingham, other
carriers would continue service. In other instances, new carriers might replace
United's service. This list is also not complete in the sense that we may find it
desirable to withdraw service from some nominally profitable markets under a
condition of free exit and entry. The statistical results are summarized as
follows :
CLASSIFICATION OF LOSS MARKETS
(United Airlines, 1974]
Number of
city-pairs
Annual
Percent contribution
of (in
market thousands)
Profits
(PBT)
(in
thousands)
Markets with negative contribution
Retained:
Traffic control
Combine markets..
Operational
Consider for deletion
Subtotal.
Markets with positive contribution:
Retained:
Traffic control
Future profit or policy
Consider for deletion
Subtotal
Grand total :
Retained
Considered for deletion ,
Total
17.2
12.1
6.9
($992) ($12, 433)
(2, 927) (6, 654)
(2, 445) (10, 718)
21
37
36.2
63.8
(6,364)
(8,096)
(29,805)
(25, 172)
58
100.0
(14,460)
(54,977)
43
48.3
16.9
31,054
23, 746
(26, 495)
(14,216)
15
58
31
65.2
34.8
54, 800
12,672
(40,711)
(13,242)
89
100.0
67,472
(53,953)
79
54.0
46.0
48.436
4,576
(70, 516)
68
(38, 414)
(108, 930)
We look forward to an opportunity to read your draft report and we hope we
can continue to enjoy a mutually constructive relationship.
Sincerely,
William R. Nesbit,
Corporate Economist.
Prepared Statement of Stuart G. Tipton
I am Stuart G. Tipton, Pan Am senior vice president for Federal affairs. I am
here today with Stanley Gewirtz, Pan Am special adviser on public policy, to tell
you about some of our widely-publicized problems. But in the context, essentially,
of the effectiveness of regulation, of route awards and the requirements of entry
into the business of international air transportation.
638
At your hearing on February 6, you heard from some very thoughtful people.
The representatives of the industry's trade association quite properly, and
proudly, recited the progress which has characterized domestic commercial avia-
tion in the 36 years since the passage of the Civil Aviation Act of 1938.
Some Government and some academic experts suggested that the progress
could have been greater, and the growth more beneficial in the public interest, if
the rules had been different and if, in fact, there were no rules governing entry
and relaxed rules controlling rates.
There may be much wisdom in the recommendations made to you. But they
relate to the domestic system. They are neither appropriate nor applicable to
our U.S.-flag system. Few of the recommendations you have heard atypically
embrace of our international flag system. You are concerned, and quite prop-
erly, with the efficacy of the practices and procedures of federal regulation of the
airline industry. And whether they have been "designed and implemented (to pro-
vide) . . . the consumer with adequate service at reasonable prices." This is
praiseworthy. Your contribution to air transport regulation would be enhanced
were you to examine, also, whether those practices and procedures have been
administered, over the last 36 years, to insure a healthy climate in which the
U.S.-flag system could be sustained. And, indeed, to inquire whether the practices
and procedures applicable to the domestic industry are equally appropriate to
the totally different nature of international air transportation. Also, in that light,
you should examine whether the nostrums advanced to save the domestic air
transport system are not totally unsuited as solutions to the problems of Pan Am,
a somewhat different U.S. airline whose operations constitute close to 50 percent
of the U.S.-flag operation outside the United States and which performs less than
10 percent of its operations domestically— and all of those outside the U.S.
mainland.
Since no one else yet has, let us look at the differences between the U.S. com-
panies that operate air transportation services internationally and those who
concentrate on domestic serrices.
At the outset, we'd like to explain what we propose to tell you and why we
feel that to be necessary. The Federal Aviation Act requires the CAB to con-
sider "* * * as being in the public interest, and in accordance with the public
convenience and necessity ; the encouragement and development of an air trans-
portation system properly adapted to the present and future needs of the fed-
eral and domestic commerce of the United States, of the Postal Service, and of
the national defense * * *." The statute also directs the Board to consider
"* * * competition to the extent necessary to assure the sound development of
an air transportation system * * *" also consonant with the trinity of require-
ments respecting the commerce, the Postal Service and the national defense of
the United States. As a result of these statutory directives the same procedures
and practices, and to a very great extent the same philosophic determinations,
have been developed with respect to both domestic and foreign commerce. This
is understandable as a matter of statutory interpretation. It was also under-
standable at the time the Act was written that the regulatory approach would
treat similarly the basic economic determinants for certification whether it be
in the domestic or the international field. However, we feel it important that
we differentiate the two systems of air transportation. In addition to that, it
seems useful to explore the structure of our .systems generally, and of Pan Am
more specifically. Pan Am is the principal U.S. international carrier and, as a
carrier without mainland domestic routes, may suggest a pretty good example
of the need for such differentiation.
We hasten to point out that the problems of Pan Am are related against this
background and not for the purpose of complaining about our condition. After
we have given you the facts and old you wha we've aemped to remedy our
problems, we feel you'll agree that management has done an effective job in the
face of some very awesome challenges.
So, le's take a look, at the outset, at the two airline systems of the United
States and wherein they inherently differ.
I. THE TWO AIKLINE SYSTEMS OF THE UNITED STATES
The United States has two airline systems, both essential to the country : the
domestic system, which operates within the United States ; the flag system, which
operates beyond the borders of the 50 states.
Many U.S. airlines take part in both systems. The impression is thus sometimes
given that the two systems are similar. They are not.
There are basic distinctions between the U.S.-flag system and the U.S. domestic
system, and the tw^o systems must be treated accordingly.
1. The Two Environments: U.S. -Domestic and U.S.-Flag
The domestic system operates in a single environment within the U.S. The flag
system operates in each of the separate environments of the numerous countries
which it serves. The multitude of political and economic environments in which
the flag system operates, as compared with the single political and economic en-
tity in whi h the domestic system functions, emphasizes the dissimilarity between
the two systems.
The economic impact on the flag system of marketing a product in numerous
foreign nation environments is dissimilar to the domestic system. The domestic
system operates in a free market economy. The flag system, in most cases, oper-
ates in the world of cartels and pools and government-owned and subsidized
corporations.
Labor laws are but another example of dissimilarity. The domestic system op-
erates under a xmiform set of U.S. government-regulated labor laws. The flag
system is immersed in environments of numerous foreign nations, each with sep-
arate laws.
The divergence in economic environments in which the two systems operate is
illustrated by airport/airway costs. The domestic system operates with a pro-
gram administered and paid for through a single government controlled airport
development air program fund supported by the consumer of airline services. The
flag system supports airport/airways costs around the world by mandated user
charges of the multiple nations which it serves and such costs are borne by the
carrier. In 1974, these charges to Pan Am came to $46 million.
There are many other obvious basic distinctions between the two systems in the
areas of markets, competition, competitive opportunity, fares and rates, wage
levels, cost of capital, and price control. They relate to the separate environments
of the flag system and the domestic system and effect every element of their
different operations.
2. Markets
The markets of the domestic system are protected against competition from
foreign-flag airlines. The question of w^hich airlines shall serve which geographic
markets is determined by the Civil Aeronautics Board. The determination is iuade
on the basis of public convenience and necessity.
The markets of the flag system are by definition subject to competition by
foreign-flag airlines. The question of which airline shall serve which geographic
markets is determined by international negotiation between governments. The
determination is made on the basis of various national interests including, among
others, prestige and political considerations and tourism.
3. Amount of Competition
The amount of competition within the domestic system is determined and con-
trolled by the Civil Aeronautics Board. Decisions as to the amount of competi-
tion are based on concepts of what represents good service for the public and
sound economics for the airlines.
The amount of competition faced by the flag system is decided by foreign gov-
ernments as well as by the U.S. Government. Decisions are made on the basis of
various national interests and political considerations.
A number of examples will illustrate this difference. The U.S. government de-
creed that only three carriers (Delta, Eastern and National) are needed between
New York and the Miami area, and they carried 3 million passengers in 1972.
Ten carriers competed for less than 1 million passengers in 1972 in the New
York-London market. Our government apparently felt that only three carriers
(American, TWA and United) were required to provide healthy competition and
they served 1 million passengers between New York and Los Angeles in 1972.
Eight airlines vied for the business of about half a million passengers in the New
York-Paris market in 1972.
4- Competitive Opportunity
Within the domestic system the principle is that airlines .shall have equality of
competitive opportunity. Restrictions on competitive opportunity, when they
exist, are intended to balance the interests of one airline fairly against anotb"'
640
The flag system does not have equality of competitive opportunity with foreign-
flag airlines. Foreign-flag airlines have the right of access to the U.S. market on
equal terms with the U.S.-nag system. But the U.S.-flag system is severely
discriminated against a foreign markets by foreign governments. This discrimina-
tion was a fundamental reason for the enactment of the Internaional Air Trans-
portation Fair Competitive Practices Act. (It is thoughtful legislation which can
be effective only if properly and vigorously administered. )
5. Fares and Rates
For the domestic system, the level of fares and rates is set by the Civil Aero-
nautics Board, and action can be rapid when speed is required. The Board acts
in accordance with the concept that the public interest requires that airlines
receive a reasonable rate of return.
For the flag system, the level of fares and rates is set through international
negotiation between airlines, and these agreements are subject to approval by
governments. Rapid action is virtually impossible. In making the decisions, the
subject of airline economics plays a relatively minor role with the major factors
being such issues as how the various foreign-flag air services can best serve their
country's economic and other national objectives.
No international mechanism has been as non-constructively maligned as
lATA. The word itself has become fashionable opprobrium in the halls of acad-
eme. We don't like a good deal about it. We would, however, suggest that instead
of condemning the lATA machinery that some one suggest a better alternative
for how a hundred countries can agree on the exercise of their inherent sovereign
power.
6. Cost of Capital
Within the domestic system, the companies compete on relatively equal terms
for capital, and the cost of capital depends on a company's rating and on its
negotiating skill.
The cost of capital is higher for the U.S.-flag system than for the foreign-flag
airlines. Capital is made available to foreign-flag airlines free of charge or at
low cost by their own governments, and certain low-cost capital is also provided
foreign-flag airlines through the United States Government, which does not pro-
vide similar capital for the U.S.-flag system.^
7. Price Control
The price of most supplies, including fuel, used by the domestic system can be
controlled by the U.S. Government. A significant portion of the supplies, notably
fuel, used by the U.S.-flag system, and purchased abroad cannot be price-con-
trolled by the U.S. Government.
S. Political and Economic Environment
The domestic system functions within the relatively stable domestic political
and economic environment of the United States. The U.S.-flag system is subject
to the effects of foreign political and economic turmoil (as when a war or a
national strike forces suspension of service to some markets and also causes
costly circuitous routing of flights in order to avoid war zones).
.9. Subsidized Competition
Within the domestic system, trunklines do not face competition from other
trunklines that are subsidized. With few exceptions, the U.S.-flag system com-
petes again subsidized government-owned or government-support foreign-flag
airlines — subsidized not only to cover the operations of airline systems I)ut also
the manufacture of aircraft as well as other associated elements of a transpor-
tation complex.
10. The Flag System's Basic Economic and Policy Problems
The basic economic and policy problems of the U.S.-flag system can be simply
^nd compactly stated :
(a) Competition against the U.S.-flag system has been established on a scale
that is destructive of the U.S. interest, particularly since much of the foreign-
flag competition receives subsidy and other special support and since virtually
all foreign-flag systems are fed by extensive domestic operations.
iln fiscal year 1974, Ex Im credits for aviation purchases granted to foreign airlines
totaled $918 million, at interest rates of 6 and 7 percent, characteristically far lower than
the rates then being charged by commercial lenders.
641
(&) The U.S. -flag system today does not have equal treatment with foreign-
flag airlines. The interests of the foreign-flag airlines are generally advanced in
a more coordinated and systematic fashion by foreign governments than are the
interests of the U.S.-flag system by the U.S. Government. The U.S.-flag system
does not in fact have equality of competitive opportunity.
(c) For a large portion of the world's air network, fares and rates had been
set at levels that are not compensatory.
It can be seen that Pan Am's problems are unique, for Pan Am is unlike
any other U.S. airline.
Pan American's greatest special problem, however, is the long history of reg-
ulatory actions which, bit by bit, sapped away at the strength of a strong carrier.
There was no deliberate government policy to cripple us. Rather, on the basis of
uncoordinated case-by-case review, it was decided in each case that that particu-
lar straw would not break our back.
Pan Am's problems cannot be adequately comprehended without relating them
to a broad view of the entire airline industry, both domestic and international,
and to the regulatory steps which in the past preceded the present critical
situation.
II. HISTORY OF OUR U.S.-FLAG SYSTEM
What impact have these differences in systems, but comparability of certifica-
tion and entry criteria, had on our U.S.-flag systems? Pan Am had initiated
Caribbean services in 1928, Latin America service in 1930, inaugurated trans-
pacific services in October of 1936 before the Civil Aeronautics Act was passed
in 1938, and was certificated across the Atlantic in 1939.
World War II, at one and the same time, immobilized air commerce yet ulti-
mately became its greatest stimulant. At the close of the war, the transatlantic
market appeared the most immediately promising. In 1945, three basic routes to
Europe were designed : across the Atlantic to Scandinavia and Russia ; to India
via the United Kingdom, Germany, east Europe and Turkey ; and a southern
route by way of France, Iberia and the Mediterranean basin to southern India.
In 1950, Pan Am's acquisition of American Overseas Airlines' northern route
precipitated a redesign of the competitive map which resulted in U.S. competition
in foreign markets for the first time.
This looked good and sound because the tired world had not yet developed, with
U.S. assistance, its economic muscle. The illusion of healthy and necessary U.S.
competition provoked, over the next two decades, the grant of competition among
U.S. airlines in almost every major international market. Over the years, since
1950, the principal airline components of the uouiestic system have been granted
international or overseas routes regardless of the growth and strength and
strength and government nourishment of the scores of foreign-flag competitors.
m. PAN AM : THE CUEBENT CRISIS
i. A Brief Background
Pan Am will be 50 years old in 1977. Pan Am was the first U.S. international
carrier when the Act was passed in Vd6H. Notwithstanding its efforts over the
years to improve its competitive position, its basic route system has remained
virtually the same since 1950, by government order.
At the same time, every other major U.S. trunkline has been granted regula-
tory permission to grow significantly over the last 20 years, often by diluting
Pan Am's international route potential.
Every major "domestic" U.S. air carrier has been given the right to expand
into international or overseas services while Pan Am still is not permitted to fly at
home in equitable comj^etition and is rigidly confined by U.S. regulation basically
to international and overseas routes. (Pan Am's "domestic" operations date from
the period when Alaska and Hawaii were still territories of the United States.)
2. Pan Am has teen An Innovator
From the outset in 1927, Pan Am has been recognized as the pioneer of the
industry, worldwide. Virtually all overseas routes in the world were first opened^
by Pan Am. But Pan Am has pioneered in every other phase of the airline in-
dustry's development, as well.
Despite the rigidity of regulations circumscribing Pan Am's efforts to expand
its operations in order to compete evenly. Pan Am has an unparalleled record
of innovating fare reductions. This unique record, beginning in 1946, extended
642
to all Pan Am routes and comprehended every type of fare. Only recently, in the
autumn of 1970, Pan Am's attempt to introduce a $99 standby student fare to
Europe was rejected by lATA. the international governing body.
Pan Am was the first airline to recognize that air transportation was not the
only necessity for tourism. Pan Am s wholly owned subsidiary, the Interconti-
nental Hotel Corporation, opened its first hotel in 1946. It now owns, manages or
franchises 66 hotels in 46 countries. Some of these establishment were de-
veloped in the national interest in conjunction with the government's policy of
assisting the emerging economics of the then underdeveloped nations.
Pan Am has been the industry's technological leader. It introduced the jets in
1958 ; the Boeing 747's, the first of the widebodied jets, early in 1970. Pan Am's
initial order enabled Boeing to go ahead with production of the 747, and Pratt
& Whitney to proceed with the JT9D engine. Pan Am's initial order encouraged
other U.S. and foreign-fiag carriers to order the 747. Pan Am's leadership in
jet procurement has led to orders amounting to $4.14 billion by mid-1971, includ-
ing $1.78 billion by foreign airlines.
3. Pan Am's Competitive Situation in the Air Markets of the World
Pan Am is subject to more competition and to more restrictions than any other
airline in the world. Pan Am is the only U.S. major airline without a domestic
network. As if it were a foreign airline. Pan Am is prohibited from passenger-
cargo service between cities within the continental U.S. Pan Am's foreign-flag
competitors are not so restricted in their own countries.
Pan Am's overseas routes have continuously been diluted through the years
by awards to its U.S. competitors without compensatory authorizations to balance
and to maintain its competitive position.
Gradually over the years. Pan Am has been subjected to dilution of its profit
potential by more unsound and excessive competition — both U.S. and foreign,
scheduled and charter — than any other airline. This has seriously affected its
profitability.
Competing with Pan Am in the world's travel market are : 49 airlines across
the Atlantic; 27 to Caribbean points: 31 to cities in South America; 21 U.S.
carriers to Hawaii ; 12 to the Orient and 9 to the South Pacific.
U.S. and foreign carriers now provide what clearly is excessive competition on
virtually all of Pan Am's routes. This unsound and uneconomic competition is
largely the result of U.S. governmental edict.
One of the major causes of Pan Am's unique and distressed competitive position
in the world's international markets is the fact that all of its U.S. competitors
may also operate domestically, have strong U.S. continental traflic centers to feed
and support their international operations. And, by reason of those U.S. domestic
operations, they maintain a degree of influence over domestic passengers for
routing over their own international routes. None of this is available to Pan Am.
Foreign airlines enjoy certain distinct advantages. Their own nationals under-
standably generally use their own airlines. Usually, they offer the U.S. airlines
one or two major traflSc points in their own nation in return for many more that
they serve in the United States and beyond. They are government-supported
airlines. They, too, have a domestic feed within their countries and extra-terri-
torial access to their Commonwealth and territorial associates.
The supplemental problem underscores a basic ru'e of physics, applicable, with
devastating results to U.S.-flag competition : for every action there is an equal
and opposite reaction. Without aruging the emotional problem of supplemental
versus scheduled carriers, it is obvious that an increased .share of the trans-
atlantic passenger market from about 2 percent in 1964 to over 17 percent in 1971
is not insubstantial competition.
4. The Classic Example of Hawaii
In 1936, Pan Am pioneered the flights from the mainland to Hawaii. After
World War II, two more airlines, Northwest and United, were authorized to
provide what was balanced competition under regulation.
The public interest was served. All three were able to exist. All three were
able to follow Pan Am's traditional policy of offering lower prices as traflSc in-
creased and profits developed.
In 1969. five more U.S. arlines were granted the rights to compete for the
Hawaiian air travel business. All had mid-American rights and access to the
vast and mid-continental population markets, as had the original two competi-
tors, Northwest and United.
643
This is a classic example of reasonable and sound competition being cast aside
in favor of unsound and excessive competition, without understandable rhyme,
reason or principle. Although in this case, as in others. Pan Ani's long-standing
routes have been the constant targets, there have been no balancing or compensa-
tory awards to Pan Am.
In fact, despite Pan Am's development of the Hawaiian market and with the
advent of new long-range aircraft which allowed for nonstop flights to and from
New York only two of the three original airlines. Northwest and United, received
this award. Pan Am was denied the right. American, a newcomer to this route
was chosen over Pan Am. (The Pan Am/ American route swap corrects this.)
Denied those nonstop rights, later that same year. Pan Am petitioned unsuc-
cessfully for the right of "fill-up" traflBc between New York and California. No
domestic passengers or cargo were allowed. "Fill-up" traffic would have meant
an opportunity to carry a small number of domestic-bound pas.sengers between
the two coasts. At most, it would have resulted in one or two flights a day — an
additional public service w'ith little, if any effect on the U.S. airlines already
with those rights.
5. The Caribbean
Four U.S. airlines presently serve the Caribbean region — Pan Am, American,
Eastern, Delta. In addition, 12 foreign scheduled carriers and 9 U.S. supple-
mentals are authorized to operate in that area.
This abundance of competition has made it virtually impossible for any sched-
uled airline to make its Caribbean routes profitable. One previously-authorized
scheduled airline, Trans-Caribbean, on the threshold of insolvency by the end of
1969, was acquired by American. This permitted American Airlines to expand
its far-flung domestic and international route structure into this already over-
burdened air travel sector.
An example of this impact w^as to further erode Pan Am's limited domestic
market since prior to this new government authorization of American into the
Caribbean by acquisition, domestic passengers enroute to that region were gen-
erally routed by American to fly on Pan Am.
And the domestic sources of Eastern, as w^ell as those of Delta give them an
obvious advantage in strengthening their traffic opportunities to the Caribbean
versus Pan Am's domestic gap.
6. The South Pacific
In 1969, the government also authorized American to compete with Pan Am in
the South Pacific, with a number of competitive intermediate resort island stops
to New Zealand and Australia.
On flights to the South Pacific, four foreign scheduled carriers and three U.S.
supplementals had also been authorized to operate on this long-distance route
which is necessary in the public interest but is far from being profitable.
While one U.S. airline might continue to be able to exist economically against
this competition, it did not appear probable that two U.S. scheduled airlines
could do so. American and Pan Am have wisely proposed to swap South Pacific
and Caribbean routes to correct, by these self-help resources, an unhealthy com-
petitive situation.
7. The U.S.-Orient
In 1948, Northwest Airlines was granted rights to fly from New York and
Seattle to the Orient. In 1969, in the far-reaching Transpacific Case decision.
Northwest was granted a new competitive route to the Orient via Hawaii and
the Central Pacific. Once again, Pan Am's competitor had access to interior U.S.
with its vast population centers as a source of increasing overseas traflSc. And
in addition. Northwest had been granted the added advantage of nonstop flights
between New Y^ork and Hawaii of obvious importance to Central Pacific-Oriental
travel.
That same 1969 decision also closed TWA's round-the-world gap by allowing
TWA to fly from Hong Kong to Los Angeles via Taiwan, Okinawa, Guam and
Hawaii. Here, again. Pan Am enlisted TWA in its self-help campaign trading
certain European points for TWA's Pacific rights.
That same 1069 decision for the first time also certificated a U.S. all-cargo
carrier. Flying Tigers, across the Central Pacific to Tokyo, Bangkok, Southeast
Asia and other Far East points.
644
8. Pan Aril's Domestic Gap: An Important Element of the Problem
Pan Am pioneered round-the-world flights. But Pan Am has been limited by
U.S. Government edict to U.S. gateway cities, primarily on the nation's two
coasts.
The possession of a domestic network was to remain as the preserve for the
domestic airlines. At the outset, overseas and international passengers from U.S.
continental cities were transferred to and thus were able to support the traflSc
needs of Pan Am and the other purely international air carriers.
But when, in 1945, the purely domestic airlines, American and TWA, were also
authorized to become international carriers across the Atlantic and beyond, the
die was cast. The criteria of regulated competition were applied in equal measure
to U.S. domestic and international competition without regard to their basic
differences.
IV. THE IMPACT OF THE FUEL CRISIS
From 1966's peak of profitability — at $86 million noninflated dollars — to
six years of mounting losses, Pan Am's trouble has been well-recorded. But there
was near success in 1973, but not quite enough of a cushion of a comfortable,
healthy competitive flavor to compensate for increased fuel prices further exac-
erbated by the impact of a combined inflation/recession in the predominantly
vacation/pleasure market Pan Am serves.
We had felt in 1973 that we would enjoy our first profitable years since 1968.
But, first the scarcity of fuel, then its escalated price shattered that hope. Even
so, in 1973 we recorded a sharply increased operating profit of $6.7 million
compared to $188,000 in 1972.
In 1974, our preliminary estimate of operating loss is about $98 million.
Our fuel bill in 1974 was $333 million. Our fuel bill in 1973 was $170 million—
about 100 percent increase over 1973. And this despite 12 percent less flying.
Fuel costs represented over 21 percent of our total operating expenses whereas
in 1972, the last complete calendar year before the fuel crisis, it represented
about 10 percent.
In 1974, compared to 1973, Pan Am's operating expenses increased only 1.7 per-
cent exclusive of fuel costs.
The cost, per gallon, of fuel to Pan Am rose from 19.6 cents at the beginning of
1974 to 38.6 cents by December. This compares to cost increa.<;es, to domestic car-
riers, of from about 15 cents per gallon at the beginning of the year to about 24
cents by the end of 1974. Since each penny per gallon increase means approxi-
mately $10 million per year to Pan Am, you can calculate what Pan Am's burden
of close to an additional 14 cents over the average domestic price would have
meant to the profit picture of the principal U.S. domestic trunks who each burned
in excess of IV2 billion gallons of fuel in 1974.
First, the fuel crunch and then the fuel punch sent Pan Am reeling.
V. PAN am's efforts TO HELP ITSELF
So much has been written about Pan Am's problems and its efforts to have the
government bail it out that there has been an insuflicient focus on the efforts that
Pan Am has made to help itself. These efforts have been vigorous and effective.
They can be briefly described as follows :
1. Pan Am reduced personnel by 4,750 employees. At the beginning of 1972,
Pan Am's total payroll was 36,084. By February of 1974, this has been reduced to
31,334. Reduction is continuing.
2. Pan Am reduced its capital expenditure program for 1974 from $100 million
to approximately $70 million. Capital expenditures were limited to those for
which previous commitments had been made or were necessary in the interest of
safety, efliciency, or environmental improvement.
3. Capacity in terms of scheduled available seat-miles operated was reduced by
10.4 percent from 1973. In 1973, Pan Am operated 36.2 billion available seat-miles
in scheduled service and operated 32.3 billion available seat-miles in the full year
of 1974.
4. In order to protect itself from dangerous erosion of its scheduled traffic by
foreign and U.S. charter operators, Pan Am decreased its charter operations con-
siderably less than its scheduled operations. In 1973, it operated 4.263 billion
available seat-miles in charter operations. In 1974, it operated 4.212 billion in
this service, a decrease of only 1.2 percent. Pan Am is the largest passenger
charter operator in the world.
645
5. Pan Am entered into the following agreements to improve the strength of
its route system :
(a) TWA/PAA. — By this agreement Pan Am withdrew from Ireland and TWA
withdrew from certain of its routes in Africa. The agreement has been approved
by the CAB and is in effect.
(&) AA/I'AA. — By this agreement, the approval of which is pending before
the CAB, American withdrew from the South Pacific (south of Honolulu) and
Pan Am undertook to transfer to American certain of its routes in the Caribbean.
When this agreement is approved. Pan Am will also oi>erate American's present
route from New York, Chicago and Dallas/Fort Worth to Honolulu.
(o) Western/PAA. — By this agreement Pan Am transferred a Boeing 707 and
its route from Seattle to Fairbanks to Western for $0.3 million in cash. This
agreement is pending before the Civil Aeronautics Board.
(d) TWA/PAA. — By this agreement, recently approved by the CAB, TWA and
Pan Am seeks to eliminate part of the head-to-head competition between the two
carriers in the Pacific and in Europe.
G. Pan Am suspended service at 15 points on its worldwide system and if it
could secure CAB approval for the agreements referred to above, it would be
prepared to suspend additional services.
7. With the approval of the CAB, Pan Am has entered into capacity reduction
agreements as follows :
(a) New York/San Juan.
(b) Miami /San Juan — Miami/ Virgin Islands.
(c) US/UK.
(d) US/Italy.
(e) US/Venezuela.
8. It has vigorously pursued its application for authority to operate between
Los Angeles and Miami, to operate between New York and Johannesburg via
Rio de Janeiro, and to improve its Pacific system by operating between Saipan
and Tokyo.
9. Pan Am has reduced its fleet size from 161 in 1970 to 144 in 1972 and 134 in
1974. During 1974, used aircraft were sold for $22 million.
10. Pan Am has developed and carried into effect a fuel conservation program
which saved 40 million gallons for the first 9-months of 1974.
By reason of the improvements in eflBciency set out above. Pan Am in 1973
incurred operating expenses per revenue ton-mile of 40.1 cents, the lowest in
the trunkline industry. It incurred available ton-mile costs of 19.6 cents, the
third lowest in the industry. In 1974, Pan Am's operating expenses, excluding
fuel which is virtually uncontrollable, have increased only 1.7 percent notwith-
standing U.S. inflation of over 10 percent and even higher inflation rates in the
countries in which it operates. Pan Am's fuel cost increase for 1974 was approxi-
mately $170 million. Its 1974 net loss was $81.8 million. Thus, it was able to
swallow close to $90 million of uncontrollable cost increases.
Pan Am's efforts have increased its overall productivity dramatically. Using
1967 as a base of 100, the 1973 inflation index for the trunklines and Pan Am
as a group, has increased to 142.7 and productivity up 117..5. Through the second
C]uarter of 1974, the inflation index for Pan Am is 158.9, and productivity is
130.9. Thus, Pan Am has been faced with inflation more severe than the industry
as a whole, and its productivity increase has been considerably higher.
As part of the continuing program to help itself, the following additional steps
are being taken :
1. In order to meet a severe cash shortage during the low traflBc months of the
winter and early spring. Pan Am negotiated a $125 million line of credit. To
secure this line of credit, Pan Am had to agree to its termination on September 30,
1975, and to pledge to long- and short-term lenders virtually all of its assets.
2. Further overall cost reduction programs, the continuation of the present
policy on capital exi>enditures. and new and drastic measures designed to mobi-
lize cash resources are expected to improve the Company's cash position.
3. Further sale of used aircraft and surplus property is expected to provide
substantial additional cash during 1975.
4. It has entered into negotiations with the Government of Iran seeking to
secure a long-term loan of approximately $300 million and has vigorously pur-
sued these negotiations to the point where there is every reason to anticipate
success if our Government does not introduce insurmountable obstacles.
As we have noted, our efforts at self-help have been dislocated by the extra-
ordinary cost of fuel— a cost far greater for us than that of the domestic air-
646
lines who enjoy some measure of price control. Since over 50 percent of our fuel
is loaded overseas, our cost is substantially greater.
CONCLUSION
This testimony, along with the answers submitted to your questions, just
begins to tell the Pan Am story.
In 1961, the President's Task Force on National Aviation Goals noted:
"Continued U.S. preeminence in international air transport is unquestionably
in the national interest. Our extensive economic and political interests abroad
require the special advantages which economical and technically sound air
air transportation provides.
"A second reason for maintaining an aggressive and expanding international
air transport system is its present and prospective national security value in
terms of auxiliary military airlift capability and political contact with foreign
countries.
"For these reasons, the decline of U.S. -flag carrier participation in the world
air travel market — particularly significant and worrisome across the North
Atlantic — deserves the most concentrated attention of the Government and the
most aflirmative effort of our airlines."
The need for U.S. preeminence still persists. Pan Am's presence as a United
States aviation symbol around the world is still vital.
"We feel that in the last years some greater understanding of the problem has
manifested itself in affirmative action. The Congress has acted wisely to correct
foreign restrictive and discriminatory practice.^. The Administration has pro-
posed action to balance the competitive opportunity of Pan Am and TWA with
foreign-flag airlines. The CAR has appeared constructively the self-help meas-
ures developed to redress some of the imbalance resultant from unsound
competition.
We know that this subcommittee, to the extent that it can. will recommend
further corrective action.
Senator Kennedy. I want to welcome the members of the Civil Aero-
nautics Board. I am pleased to see Chairman O'Melia afjain, and I am
happy to welcome members Minetti and West, here for the first time
before us. Mr. O'Melia will present a statement. I would welcome com-
ments from other meml:>ers after the statement, or in response to ques-
tions. Chairman O'Melia, would you please present your testimony.
STATEMENTS OE RICHARD J. O'MELIA, ACTING CHAIRMAN, CIVIL
AERONAUTICS BOARD; G. JOSEPH MINETTI, MEMBER, CAB; AND
LEE R. WEST, MEMBER, CAB; ACCOMPANIED BY FREDERIC D.
HOUGHTLING, ASSISTANT TO MEMBER MINETTI; WILLIAM B.
CALDWELL, JR., DIRECTOR, BUREAU OE OPERATING RIGHTS,
CAB; ARTHUR H. SIMMS, ACTING DEPUTY DIRECTOR, BUREAU
OF ECONOMICS, CAB; AND STEVEN J. GROSS, ASSOCIATE GENERAL
COUNSEL, CAB
Mr. O'Melta. First I would like to introduce on my left Judge West,
member of the CAB ; Mr. Minetti of the CAB, and Mr. Houghtling,
Mr. Minetti's assistant. On my right, :Mr. Caldwell, head of the Bureau
of Operating Rights, and next to liim Mr. Simms, acting deputy di-
rector. Bureau of Economics, and Mr. Gross, acting general counsel,
who is in place of Mr. Tom Ueye whose good friend and .<i-ood friend
of ours died tragically over the weekend. We are deeply sad that Mr.
Gingery died.
Senator Kennedy. I want to indicate at this point we are very much
saddened as well. We understand he was going to be of some help to
647
the subcommittee. "VVe understand that he was a very highly regarded
and distinguished public servant on the Board. Although I have never
had the opportunity to meet him, from what I have known he has a
reputation of dedicated public service to the Board, many years of
public service, and we extend our sentiments to the members of the
family, both on the record and obviously in a personal sense as well.
1 can understand the sense of loss that the members of the Board and
the people who knew him and worked with him must feel. I appreciate
your mentioning it.
[Mr. William Gingery, Director, Bureau of Enforcement, CAB, was
scheduled to testify before the subcommittee this day. He committed
suicide during the night preceding this hearing. These matters are
discussed further in the hearing before this subcommittee on March 21,
1975. See, especially, pp. 2300-03, below.]
OVERALL CAB POLICY OX EXTRY IXTO IXDUSTRY AND ROUTES SINCE 1938
Mr. O'^SIelia, Thank you, Senator.
I have a summarized statement that I have submitted to the sub-
committee and I will briefly highlight some of the points.
A reading of the Board's major route decisions will show that the
Board's overall route policy since 1938 has had two distinct but related
goals : first, to expand the number of markets in which air service is
provided ; and second, to promote the expansion of competition among
air carriers. In general, the expansion of competition in an expanding
market has been a primary underpinning of the Board's route policy
since 1938. It has long been recognized that the competitive environ-
ment that exists in our aviation industry has been responsible for the
development of the high level and quality of service enjoyed by the
traveling public in this country, which service constitutes the most
extensive, convenient, efficient and least costly air transport system
anywhere in the world. A very important secondary result of the
Board's competitive route awards has been the expansion of first air
service opportunities to many city-pair markets as a result of the tack-
m<r on of vpv: points ^o th^ existing system of a successful applicant.
Senator Kennedy. Would you just hold. We want to welcome Sen-
ator Thurmond who is an active member of this subcommittee. Of
course, we are delighted to have him here. We have the members of
the Board here, the Chairman, Mr. O'Melia, making his presentation.
Mr. O'Melia. Since the midsixties, the Board has been permitting
the local service carriers to enter markets served by trunkline car-
riers. The result is that in a very real sense man}^ of these carriers
have evolved into small trunkline carriers. The expansion of local
service carriers accomplished several important objectives. By
strengthening the carriers' route systems the Board accelerated the
time when Government subsidy may no longer be required. And, by
increasing market opportunities, the regional carriers were enabled
to modernize their fleets and enjoy other technological improvements.
As you know, Mr. Chairman, tlie Board's route award policies were
not limited to the tnmk and local-service carriers. In addition, var-
ious specialist carriers were authorized to provide service in com-
petition with trunkline carriers. These include all -cargo specialists
that compete ior cargo over routes served by the trunks' the supple-
648
mental carriers that compete for charter traffic with the trunks ; var-
ious Alaskan and Hawaiian operators; and certificated helicopter
carriers. A new trunkline carrier, Trans Caribbean Airways (now
merged with American) was awarded a certificate, and certificates
authorizing service over limited routes were awarded to Aspen Air-
ways and Wright Airlines. In addition, in the midfifties the Board
authorized 26 supplementals to provide individually ticketed service
in competition with the trunks. I would also note that in July 1974
the Board established in the New England service investigation a
new regional airline, Air New England, to provide service between
New York and Boston and at least 12 other New England points.
REASONS FOR LACK OF CERTIFICATIOX OF NEW ENTRANTS INTO INDUSTRY
One of the issues that concerns this subcommittee, the administra-
tion, and a broad segment of the public is how the Board views com-
petitive service. There is no question that in its history of route
awards the Board has affirmed its recognition of the merits that can
flow, in appropriate situations, from competitive service.
If it has determined that competitive authority is required to im-
prove the efficiency and quality of the service, an equally difficult task
for the Board is that of carrier selection. Carrier selection criteria
include the question of which carrier can provide the most service
bentfits to passengers in the particular city-pair market under ex-
amination as well as in beyond-area markets; the need for carrier
strengthening, which includes an examination of individual carrier
profitability over the proposed route; the degree of historic identity
in the market in issue ; the extent of diversion from the incumbent,
which varies by individual applicant, depending upon its route
structure.
Thus, in any case involving a choice between an existing carrier
and a would-be entrant, the existing carrier can virtually always show
that it will be able to provide substantial public benefits in the form
of through service to numerous points, in addition to those at issue
in the proceeding, whereas the new entrant cannot make such a show-
ing. In view of this and in light of the capital outlay required to
serve a scheduled route, it is not surprising that applications by new
entrants into the trunkline field have been relatively few. The degree
of competitive expansion authorized by the Board has varied from
time to time depending upon the state of the general economy and
the airline industry.
"route moratorium" 1969-74
This practice of the Board has been subject to severe criticism, to
the point that it has been characterized by its critics as a "route
moratorium." I think you will find, Mr. Chairman, if you examine
the Board's decisions, and the public remarks made by Board mem-
bers and by its senior staff officials, that this characterization does
not truly reflect the Board's policy. On the contrary, the Board is
keenly aware of its statuatory mandate to be responsive to route ap-
plications and to act upon them as speedily as possible in keeping
with the circumstances of each such application and with the judg-
mental decisions, with which it is also entrusted.
649
Senator Kennedy. On that point, Mr. O'Melia, how can you say
there has been no route moratorium? How many competitive route
applications were actually set for hearings in 1973 or 1974?
Mr. O'Melia. Well, there are several points I would like to make.
During the sixties, as you heard this morning, there were a lot of
route cases. In early 1970 there was a downturn in the economy. The
cases that came before the Board were very few. There was no Board
policy stating that there was to be a moratorium. In 1973 we experi-
enced the fuel shortage from the fall of 1973 until the summer of
1974 the carriers were trying to find fuel, not trying to find new routes
to operate.
Senator Kennedy. Were there applications during this period of
time?
Mr. O'Melia. I am not sure. There probably were. Normally there
are aWit a thousand docketed cases a year of which 300 or 400 of
them are route cases. Of those I am not sure how many are normally
filed for expedited consideration, which would then bring them
before the Board.
Senator Kennedy. As I understand it, even though there were no
hearings that were set during this period of time, and even though
you have claimed there was no moratorium, the staff study itself opens
by saying that since approximately 1970, the cases involving new
domestic route authority were generally not being set for hearing.
[Bureau of Operatino; Rio:hts, CAB. the Domestic Route System,
foreward at i-ii (Oct. 1974).] How else would you characterize the
policy of the CAB? Isn't that really a moratorium— are we just
fencing on words here ?
CAB WILL BE INCLINED TO HEAR ROUTE ENTRY APPLICATIONS IN THE
FUTURE
Mr. O'Melia. As one Board member, let me give you as straight an
answer as I can, Senator. During my hearings before Senator Can-
non when consideration was being given to my nomination as a mem-
ber of the Board. I answered the question of the route moratorium
two or three times. I said I was not in favor of a moratorium, that
I felt that if cases are filed, and if the applicants ask for expeditious
hearing, that they should be heard. Now this is in the record of those
two hearing.
Senator Kennedy. That is your view?
Mr. O'Melia. That is my view. In fact, as far as I am concerned,
there is no route moratorium as of now.
Senator Kennedy. Let me just say, I think that is a very positive
statement.
Mr. O'Melia. Thank you. Senator.
Now, this probablv has"^not been read but Board order 75-2-33 came
out February 7, 1975, Eastern airlines exemptions, dockets 24626 and
27075. Let me read just two sentences:
During the past few years the Board has acted with caution in setting for
hearing certificate amendment applications, where it appeared that granting
the application would increase or intensify competition among the domestic
air carriers. This course has been occasioned by depressed economc conditions
in air transportation following a period of rapid expansion, and more recently
by scarcity of fuel. It has also to some extent been influenced by unusual de-
650
mands on the time of the Board's staff in fare and rate matters, for example,
the recently completed domestic passenger fare investigation. Undoubtedly this
course can be expected to change as the relevant circumstances change, and
it goes without saying that the Board has a continuing duty to address those
situations where it becomes apparent that there are legitimate needs for
additional and improved air service which are not being met.
Now, that is a five to nothing vote by the Board on the 7th of
February,
Senator Kennedy. We reviewed with the earlier witnesses the pro-
visions of the Federal Aviation Act as well as the Administrative
Procedures Act, which would appear to require at least a timely dis-
position of matters which are brought before the respective agencies.
Then we heard from some of the witnesses, who characterized the
inaction during this period of time as being a moratorium, for
whatever reasons.
Do I understand your testimony now, that you believe that any
applications that come through to the Board are going to at least
get a timely disposition, and that at least there will be the possibility
of hearings before the Board on those that meet certain criteria ? The
problem is we don't knoAv what those criteria are, as I understand it.
You can correct me at any time. It is awfully difficult, I would think,
for any applicant to really know whether they will get a hearing or
not because they don't know what the criteria are. The criterion of
public interest is sufficiently vao-ue, I would think, to permit what I
think fair-minded people would feel is simply a policy of nonhearing
by the Board.
We are interested, as I am sure you are, in having the Board be
responsive to these legitimate requests. I am interested in the extent
you feel you can make any kind of a statement which would indicate
what the Board's policy is? I might ask the other members of the
Board what they feel to be the policy of hearing those cases that
were set for hearing some time ago, but have never been heard : for
example, the Ohio/Indiana ponstop investi^i-ation; the Spokane-
Montana points investigation; the Louisville- Washinfrton/Baltimore
service investigation, and there are others. What kind of assurance
can you give us as to when these cases will be heard? What is the
Board's attitude with rearard to these cases ?
Mr. O'Melia. First, before I turn your question over to the other
members, let me say that the standards for determining priority of
hearings are in section 899.60 of the regulations. I won't go over
them, but they are the standards that the carriers need to measure
up to in their annlication where thev want prio^-itv of hearin^^.
[The regulation referred to, 14 CFR sec. 399.60 (1974), follows:]
§ 399.60 Standards for determining: priorities of hearing:.
(a) General. This policy statement describes the general stnu'^arris whi>h "-'"ll
be used by the Board in determining the order in which it will designate for
hearing those matters on its docket which are to be decided after notice and
hearing. Among such matters are applications for certificates of public con-
venience and necessity or for foreign air carrier permits ; applications under
section 408 of the Act for approval of consolidations or acquisitions of control ;
complaint cases ; and various ratemaking proceedings.
(b) Standards. Matters will be assigned for hearing in accordance with the
degree of relative priority which each matter is entitled to on the basis of the
comparative public interest involved therein. Among other things, the Board
will take into account :
651
(1) statutory requirements for preference or statutory limitations on the
time witliin which the Board shall act ;
(2) The impact of delay on the public or particular persons;
(3) The need for promptly securing compliance with the provisions of the
Act ■
(4) The time for which the matter has already been pending and which would
be required to dispose of it ;
(5) Whether the application requests renewal of an existing temporary au-
thorization ; and
(6) In matters relating to operating authority —
(i) Whether a proposal might reduce subsidy or increase economy of
operations ;
(ii) Whether an application proposes new service ;
(iii) The volume of traffic that might be affected by the grant or denial of
the proposal ;
(iv) The period that has elapsed since the Board considered the service needs
of the places or areas involved ; and
(v) The relative availability of necessary staff members of the carriers, com-
munities and the Board, in the light of other proceedings already in progress,
to handle the processing of the case.
Interested persons may urge upon the Board such considerations as they believe
should lead it to accord a particular application a priority different from that
which the Board has given it.
As I said, I can speak only for myself, but as one Board member,
I have given yoii my opinion. Now, if you want to ask the other
Board members the same question, go ahead.
LEGALITY OF THE "rOUTE MORATORIUM"
Senator Kennedy. You are aware, before we leave, Mr. Chairman,
that there is a substantial body of lawyers who feel that CAB orders
have been at some variance with what is in the regulations
Mr. O'Melia. I think you are referring to section 399.60.
Senator Kennedy. Section 401 [of the Federal Aviation Act of
1958, 72 Stat. 754, 49 USC § 1371] and the regulations thereunder.
Let's hear other points.
Mr. Minetti. I have prepared some comments here on the question
on the legality of a route moratorium.
I do not believe the Board could simply announce it was not going
to hear any more new route applications either for a period of years
or an indefinite time. If the Board had ever announced such a policy
I would certainly have dissented. I think section 401 of the act clearly
contemplates that route applications are to be set for hearing, that
they are to be granted if the Board finds after notice and hearing that
the public convenience and need so requires ; otherwise, they are to be
denied.
At the same time, I think the Board has to have control over the
order in which applications are heard. If we heard them in strict
order of filing most of our time might easily be spent hearing appli-
cations which promise very little benefit to the traveling public.
652
Applications for service critically and uro;ently needed by the travel-
ing public might take many years in coming to the top of the list.
I recall, for instance, that soon after the first successful moon shot
one major carrier got publicity by filing an application with the
Board for a route to the moon. Now should the Board have set that
application for hearing ?
It is my understanding that the Board at first tried to hear appli-
cations in order of filing, and the result was that certain carriers
flooded the docket with applications for every new route they hoped
to acquire in the next 10 years.
So we have to have some preliminar}^ method, before actually set-
ting an application for hearing, of deciding where it ought to go in a
rational order of priorities, based on the factoi-s of the public interest
and not simply when it was filed.
Senator Kennedy. I do not think there is any dispute whatsoever
about what you mentioned concerning setting the order of agenda.
I do not think any of us could possibly dispute that you
have the responsibility and authority to work that kind of will,
but that is not what we are talking about. We are talking about the
fact there were not any hearings, not the question of whether you have
the authority and responsibility to set them in a particular order.
Mr. MixETTi. As you know,'^Senator, I did dissent in many, many
cases in which the Board refused to set cases for hearing.
Senator Kennedy. As much as you may or may not be interested in
the merits of a particular situation, that is out of our particular area
of interest. What we are interested in is what I think has been charac-
terized as a moratorium. Different words have been used. We are
interested in the substance of the situation : that no hearings were held.
What we are trying to find out — and I would be interested in what-
ever comments you make on the rationale from the legal and policy
point of view — is what you are going to do in the future. I am inter-
ested in what happened in the past and reasons for it, but I am most
interested in what the attitude will be now.
Mr. O'Melia has very constructively commented that he believes
there should be a timely hearing in those matters.
Mr. MiNETTi. That is what I am interested in, too.
HISTORY OF CAB DE^-ELOPMENT OF THE "rOUTE MORATORHrM"
Senator Kennedy. Perhaps you could develop, since you were on
the board from the beginning of the moratorium, or whatever word
you want to use
Mr. MiNNETTi. The phrase route moratorium came up in 1969 after
the Board had decided a number of cases. I think at that time some of
the carriers came in and suggested to the Board that we have a route
moratorium to "-ive them an opportunity to digest the new routes they
had received. This was not shared by all the carriere, but some of them
felt we should have a route moratorium. That is how the phrase route
moratorium came up.
Senator Kennedy. How did you respond to some of the applicants
who pointed out that under the various legislation there was a re-
sponsibility by the Board for timely consideration of the various route
applications?' When someone raised that point to you how did you
respond to that?
653
Mr. MiXETTi. Well, as I said in one dissent. Senator, several years
ago. I have no problem with a policy of caution in setting down "route
cases during time of financial difficulty. What I disagree with is carry-
ing the policy of caution to the extreme of refusing to hear any route
cases. I still tJiinic hearing no such cases at all is inconsistent with the
mandate of the statute.
Senator Ivexxedy. Could you tell us just a little bit about the meet-
ing that you had with the carriers, in which it was suggested that there
be a moratorium? Was that an open hearing or were there any notes
kept on that ?
Mr. MixETTi. I do not know whether there were any notes kept on
that one.
Senator Kexxedy. You can see the point — I think it was suggested
that the major carriers get new routes and, in order to solidify their
positions, that there be a moratorium. They used those words. Sub-
sequenth". there was in effect a moratorium, and I suppose what we are
interested in is how that policy was made. Was it made openly, if it
was, Jiow v.as i^ cojisnlerecl. and who said what, and what other inter-
ests were considered?
Sh: Mixi-Tii. \\ ell. I think that just developed as cases came before
the Board. The Board stated the position was that there was a policy
of caution.
Senator Kexxedy. It does not appear that every time it came up the
merits of the particular case just happened to be consistent with the
policy of caution during that period of time. That is not quite what
you said earlier. As i understand what you said in response to an
earlier question, a number of the major carriers came to members of
the Board and indicated they needed some time to solidify their posi-
tion. There was no announced policy, but at least an implied one. that
there were not going to be any more new routes granted. I do not want
to put words in your mouth, but it seems that is really the sequence of
events.
What our subcommittee is interested in is what are the procedures
developed resulting in some major policy considerations. Could you
give me your view on this point, Mr. West ? What I am interested in
is moving from the current situation: Where we are going in the
future.
Mr. West. I gave Senator Stevenson the same comment out in
Peoria. I had no part, since I am newly on the Board, in the develop-
ment of route moratorium, philosophy, of course. I am not in favor of
it. I do not feel inclined to defend it.
I am in favor, and have so recommended to the Board, that we do
conduct hearings in regard to applications. Xow. there has to be some
priority considerations and I think you recognize that. I think the
Board is evolving a policy of trying to determine those and pass on
them at the Board level rather than all together at the staff level, and
I am active in the effort and will be in the future.
I do not think there is an official moratorium. I think that was a
majority philosophy at the time.
I do not question the motives of the members involved in that so-
called philosophy. I just do not agree with it.
Senator Kexxedy. I suppose the point is in that reaching a poUcy
of this importance and magnitude, informal discussions, whether they
654
are right or wrong, will certainly impact major industries of this
country. It seems to me that there should be at least some kind of a
proceeding or hearing in which various interested groups are able to
participate. As I understand it, there was at least some kind of
informal understanding. It is not clear how the understanding was
reached. Mr. Minnetti has indicated some of those who have been
awarded the routes after being in touch with Board members. There
appears to have been some understanding within the Board that this
was going to be the policy, and then it was strengthened in the refusal
to have any hearings, in the way that applications were disposed of
before the Board, and I suppose our question is really whether this is
the best and most effective way of implementing a policy.
Mr. West. I think not, Senator. I think Mr. Minetti has been most
interested and most active in attempting to articulate some standards
by which we can determine which cases should come up for hearing and
which should not be passed on. From my personal knowledge, I know
he is very active in that area.
CAB STAFF STUDY ON ROUTE EXTRY, THE DOIHESTIC ROUTE SYSTEM (197 4)
I think we are also susceptible to the charge that we conduct our
business in a way that no one knows what factors we take into consid-
eration. Judge Friendly has been complaining about this for years and
years. I think that out of the route study— and I think we have to be
very careful not to make this too restrictive— but we have to develop
standards that can not only be determined within our staff and passed
on to the Board, but provide a basis for judicial review of our failures.
Senator Kennedy. I think that would be helpful. I would like to
finish this point and then yield to Senator Thurmond.
We usually follow a rough rule of about 15 minutes or so. Senator
Thurmond has been here and I would like for him to cover additional
areas. The principal point concerns the criteria that has been outlined
by the staff report. It is, I would think, a fair characterization to say
that they are extremely restrictive.
Mr. West. That is not a Board release. That was a staff release, and
I think you will recognize that I have to be extremely careful in com-
menting with regard to that because that is a matter out for comment
pending before the Board which we will pass on in the future. I am
aware of a number of criticisms of the staff release.
Senator Kennedy. I think all of us are familiar enough with various
reports are prepared at that level. They do not necessarily represent
the view of the Board, and we do not want to view them as a character-
ization of the attitude of the members of the Board if they are not.
I would like to yield.
first-class service and the need for LOW-FARE TRANSPORTATION
Senator Thurmond. Thank you. I will ask a few questions and then
turn back. Mr. O'^Ielia, in view of the time required and the appropria-
tion limitations of CAB, would you recommend that the CAB no
longer have authority to assign new routes? Could your resources be
more effectively used if
Mr. O'Melia. Senator, the Federal Aviation Act would have to be
amended to allow the Board to have freer entry into the industry by
655
other carriers. The present policy of entry is in fact set forth in section
401 of the Federal Aviation Act.
Senator Thurmond. Whatever is necessary to give the public better
rates, because air travel now is a mass form of travel, of course, as you
know, and that should be encouraged over automobiles. I live about
9 hours from Washington down in South Carolina, and it costs, if I
take my family, four or five people at $45 apiece and maybe a little
more, you can see what it costs. With an automobile you can go down
there a lot cheaper.
Well, now, it seems to me for the average family there ought to be
some way a man could travel by air and save a lot of money. I am won-
dering, too, is it necessary to have a first-class fare now ? "Wliat is the
purpose in having a fii-st-class fare ?
Mr. O'Mfxia. Well, there are a lot of businessmen who I presume
want to travel in connection with this business and cost is not a real
obstacle, so they go first class.
Senator Kexnedy. It is not the real object because the taxpayers are
paying for it ; they are subsidizing first class.
Senator Thurmond. You carry very few people on the plane. If you
take more on the plane, that ought to reduce the cost to the rest of the
passengers, should it not ?
Mr. O'Melia. Let me have our rate expert answer your questions.
Mr. SiMMS. In the recently concluded domestic passenger fare inves-
tigation, one of the issues concerned the lawfulness of first-class fares.
The Board, after a very extensive evidentiary hearing, concluded that
the first-class fares have historically been too low, that they have bur-
dened the coach-fare level. In other words, the carriers have in the long
run lost money on the service and the Board as a consequence directed
that the first-class fares be increased in stages over a 2-year period up
to the level of the full costs.
Now, there are substantial questions as to the extent, as to whether
first-class service will continue to be attractive at the much higher
levels that will be in effect after the phase-in— the complete phase-m is
completed. But experience with fairly high differentials in, for ex-
ample, in the international markets, indicates there is a market for a
first-class service at verv sizable premiums.
Senator Thurmond. *You can get three seats to the row if you have
tourists and only two to first class.
Mr. Simms. Yes.
Senator Thurmond. xVnd the airline would make more money ]f it
Avas all tourists, would it not ?
]Mr. SiMMS. It depends upon the price the airline gets for it. In the
past the price has not fully reflected the cost differential. It costs more
per seat if vour seat is larger. .
Senator Thurihond. I will give you my illustration of going to Co-
lumbia, S.C, from Washington. It costs more, about $10 more, to travel
first class. If I travel fii-st class, two seats to the row, it will be double
that amount, probably $55, two of us $110, whereas if you have three
seats, ^5, that is $135 the airline will get, is it not ?
Mr. Simms. Yes.
Senator Thurmond. And were your first-class passengers not costing
the public more to travel ?
Mr. Simms. The answer to that is at the present time, yes.
656
Senator Thurmond. Well, then, why do you not raise them?
Mr. SiMMs. We have.
Senator Thurmond. The airlines I travel on still have first class.
Mr. SiMMS. The Board has just completed its investigation and the
order is effective April 29. Beginning April 29 the first-class fares will
be higher.
Senator Thurmond. I travel tourist all the time. I see a lot of little
government employees here up in the front section traveling first class.
They do not have to pay it. It is a different thing. But I think service
ought to be for the masses of the people, not for the rich and not for
the high and mighty, but to give the lowest rate possible to serve the
people. I think it is your duty to provide that.
]Nir. SiMMS. Sir, the statute quite clearly precludes the Board from
dictating to the carriers the type of service which the carriers provide.
In other words, the carriers are free under the law to provide a first-
class service if they wish, and there is no way the Board can directly
interfere with that discretion.
What the Board can do and has done is ensure that the carriers make
a proper charge for those services so that the more luxurious service is
not conducted in a manner which burdens the mass traveler.
Senator Kennedy. Could the Senator yield just on that point?
Senator Thurmond. Yes ; I will be glad to.
Senator Kennedy. On Senator Thurmond's point, there is no reason
why you could not permit World Airways to provide that same service
on a given route, is there ?
Mr. SiMMS. That raises a whole new, quite a different set of questions.
Senator Kennedy. To provide what Senator Thurmond so elo-
quently stated here this morning, you cannot require, as I understand
it, that an airline perform a certain kind of service, but there is no
reason why you cannot give a particular carrier authority to fly a
given route down to South Carolina. You could do that, could you not ?
If some carriers were to take out all the first-class seats, if some of them
wanted to do that and provide service at lower fares, you have the
poAver to do that ?
Mr. SiMMS. We have the power to certificate a carrier who, in his
application, represents that he Avill provide that type of service, yes.
Senator Thurmond. And not only that, but first-class people get a
little better meals and get wine with their meal, and who is paying for
that?
Mr. SiMMS. Under the Board order all of those costs will be borne by
the first-class user.
Senator Thurmond. For an hour or two, even up to 5 hours, is it
necessary to serve meals? Cannot people eat before they f^et on the plane
and eat when they set there? Would that not reduce a whole lot having
all tliose meals and the weight of those meals, and the service of those
meals requires more stewardes'-es to serve those mea^s ^ T <^'^ink ve l^nve
to in this country recognize that people want the safest form of air
travel possible, and if you have all these fringe benefits let them charter
a plane or go some other way. We have to provide for the masses of
people the most economical transportation possible.
Mr. SiMMS. I think the Board. Senator, has been moving in various
directions to meet those needs. One way is through the development
of charter policies. After all, charters represent the most efficient form
657
of transportation possible, because the cost of charter service does not
minimize the operation of empty seats.
FULL FARES FOR CHILDREN WHO ARE CARRIED
Senator Tpiurmond. I want to ask you another question that affects
me. and I see it does other people with children. Is there any reason why
a 3-year-old child has to have a ticket if the parents hold him on
their lap ?
Mr. SiMMs. Senator, the airlines have historically offered free trans-
portation to what are essentially babies in arms, persons
Senator Thurmond. Do the airlines do it or does the CAB require
that ?
Mr. SiMMS. No; the airlines. Under the tariffs that are filed by the
airlines from time immemorial, children under 2 years have been
carried free if they do not occupy a seat of their own. From 2 through
12 there is a discount for children. The Board has never had occasion
to consider whether the 2-year cutoff is the right point at which to cut
it off. The matter has not come before the Board.
Senator Thurmond. You have made it too costly for me to travel
with these young babies I have got. I do not see why a 3-year-old child
could not sit in the parents lap,
]Mr. SiMMS. I suppose the next problem will be what about the 31^-
or 4-year-old. You have to draw the line somewhere.
Senator Thurmond. Well, why not draw it up to 3 instead of 2, just
increasing it a year? Now, Eastern tells me they would not object if I
hold this little fellow on my lap, but they say that CAB requires that.
Mr. SiMMS. The Federal Aviation Act requires that Eastern adhere
to its tariff. The Federal Aviation Act gives Eastern the right to file
any tariff it pleases and the Board can suspend it and investigate it if
the Board finds it is unlawful. I am not aware that Eastern has filed a
tariff to authorize it to carry a 3-year-old without charge.
Senator Thurmond. At any rate, these are just things that have come
to my attention as a man who rides the airlines every week, but it is
getting very difficult. I will have to drive my automobile and take a
lot longer time rather than to have to pay for all these children. It
seems to me up imtil a child is 4 years old if the parent is holding him
in his lap you ought to make some arrangement — in fact you ought
to be encouraging them rather than riding in automobiles where they
are more likely to get killed. I do not want to take much time on this,
Mr. Chairman.
NEW ENTRY INTO THE INDUSTRY
Senator Kennedy. Thank you, very much. Could I ask you, Mr.
Chairman, how many new trunk carriers have been granted certifica-
tion since 1950 ?
Mr. O'Melia. Well, I listed all of them in my prepared testimony,
Senator.
Senator Kennedy. I think since 1950 there have not been any new
trun]v carriers, have there ?
[In answer to question 19 of an extensive subcommittee question-
naire, directed to the CAB in preparation for these hearings, the CAB
indicated tliat between 1950 and 1974, 94 applications for new trunk-
line authority (of which 79 were for domestic authority) have been
658
made to the CAB, and none had been granted. The CAB's complete
answer is reprinted in the separately bound appendix to these
hearings.]
Mr. O'Melia. I do not think so, Senator. However, some of the
smaller carriers reached the statute of trunk during that time.
Senator Kennedy. The reason that I raise this point is that it raises
serious questions about the original intent of the Civil Aeronautics
Act. When the Aviation Act was being considered in 1938, I note,
looking through the legislative history, that Senator Truman was the
floor manager of the bill. Senator King of Utah, I believe, said that
he was concerned to know just how far the bill would freeze existing
routes and corporations. He felt that if it would exclude others who
might desire to enter this great field, that there should be some amend-
ments. Senator Truman assured Senator King no such development
was likely under the act as drafted. Yet we have seen that this has
not, in fact, been the policy of the Board — speaking not of your Board
in particular, but of the Board over the period of its past. The fact is
that they have turned down some 94 applications by firms outside the
industry. I am wondering whether this doesn't create at least a pre-
sumptive case that the Board doesn't want any new blood in the in-
dustry itself.
Mr. O'Melia. On the contrary, I think that in 1938 there were just
four so-called trunk carriers. Today, if you will look at some of the air-
taxi operators we have in the United States, they are bigger than the
four trunk carriers which were called trunk carriers in 1938. I think
the Board in its history has probably moved in the direction of creat-
ing better service by extending the routes for the so-called smaller
carriers, now the local service carriers by certificating all cargo
carriers and by authorizing helicopter carriers, and other specialist
types. It doesn't mean that if you wanted to come into the industry
and had enough money to try for a 401 certificate under the Aviation
Act, that you would be precluded. That possibility is still there. Until
that is changed you have to follow the law.
Senator Kennedy. It would appear by the way the statute is
drafted, it is still there, but as a practical matter it doesn't appear to
be.
As I understand it, the four or five major trunk carriers operating
in 1938 have just about the same percent of the market today as they
had in 1938, except for American, which has gone from 28 to 15 per-
cent. All the others remained just about the saine. Also, in 1938 there
were 16 trunk carriers, and today there are 10. What is the reaction of
the Board, in terms of any new carriers? What will be the attitude of
the Board in considering any requests for certification ?
INIr. O'Melia. Well, any carrier that applies certainly has the right
to be heard. In my testimony I try to point out that a new carrier who
seeks entry is at a great disadvantage against an existing, competing
carrier, because a new carrier will probably only apply to operate be-
tween points a and b and probably has no beyond authority and
couldn't compete with the existing carriers. That is on page 7 of my
prepared testimony that I didn't go into.
Senator Kennedy. It took, actually, an act of Congress to get the
local service carriers permanently certificated, did it not ?
659
Mr. O'Melia. It did.
Senator Kennedy. In 1955. And still we have no new trunk carriers.
Mr. O'Melia. That is right. .
Senator Kennedy. We have had an application. We heard World
Airways indicate what they were prepared to do, and I think that
ought to be noted.
CAB willingness TO HEAR FUTURE ROUTE CASES
On the subject of the route moratorium, we heard a little bit earlier
that some carriers came down in 1969 and proposed a moratorium, and
basically this policv was adopted on an ad hoc case-by-case basis, al-
though there was no formal comment by the Board, or any oppor-
tunity for challenge to that idea. Now we have had the staff domestic
route study, and again it hasn't been adopted by the Board. I am just
wondering whether we can expect that the Board is going to face the
situation in the future on an ad hoc case-by-case adoption, by the pro-
posals in this study or whether there will be some formal procedure
to allow for public input and challenges. What kind of assurances can
you give us ?
Mr. O'jNIelia. We will be dealing with new route cases on an ad hoc
basis until the new route study has been completed. This means that
with the input from all sources, we will decide each case that has
requested a expeditious hearing as it comes along. This, I hope, will
work up to the time that the route study is completed. The study has
a May 1, deadline for comments by the industry and by airport oper-
ators and carriers and whoever wants to comment. Once those com-
ments are in, the staff study will be considered by the Board. I hope,
down the road, that through that study standards will be set out as
guidelines to give the Board in the future the same type of guidance
that the domestic passenger fare case gave it as far as fares are con-
cerned. I think this is a big step forward.
I understand that you want to know whether there would be public
hearings. I think that the public can certainly be heard in any case
before the Board.
Senator Kennedy. When will that be resolved as far as the Board
is concerned, the reactions to the staff study ?
Mr. O'Melia. We extended the dates for comment to the first of
I^Iay, Senator, so that we would get good constructive comments. Hope-
fully from these hearings also we would benefit by the results of study-
ing the views expressed at these hearings.
Senator Kennedy. One of the questions that was raised earlier m
defense of the route freeze or moratorium, was the question of the via-
bility of airline profits. I would imagine that with the increase in
profits this past year, that if this has been a consideration, as has been
suggested, that it might lead you to give some additional consideration
to the possibility of additional route entries.
:Mr. O'Melia'. I am not sure I am following your question. Senator.
Senator Kennedy. I believe it was World Airways that said they
had applied for route stractures in the past and that they would again
if they thought that there was an opportunity for a return which made
some sense financially, and if there Avere some likelihood of a hearing.
660
I gather from your testimony that you will consider giving a hearing
to any legitimate or meritorious carrier. Given the increase in the
profit structure over the past year, I would imagine there may be a
number of applications for different routes. You have indicated that
you would consider the applications as they came along.
I think you did indicate, in response to a question I had asked you
up in Boston February 14th, that if there was an application by some
carrier that wanted to provide PSA types of service in the North-
east you would at least be willing to give that a review.
Mr. O'Melia. That is correct, Senator.
Senator, I forgot in my opening remarks to say that Mr. Timm
is out of the country and that is why he is not here today. Judge
Gillilland is home with the flu. If you have any written questions,
they will be happy to answer them.
Senator Kennedy. I would like to submit questions to the members
of the Board, if I could, on price and entiy policy, which is covered in
your testimony, and also other areas as well.
Mr. O'Melia. Fine.
Senator Kennedy. Mr. West or Mr. Minetti, is there any further
comment ?
Mr. West. No.
Senator Kennedy. We will recess and reconvene at 2:15 p.m.
[The prepared statement of Mr. O'Melia follows. See also the ma-
terials on the topic of certification in the separately bound appendix to
these hearings.]
Prepared Statemeint of Richard J. O'Melia, Acting Chairman,
Civil Aeronautics Board
cab's route policies
Mr. Chairman, the topic your subcommittee is examining today is clearly one of
the major facets of the Board's work. My testimony will cover the Board's prac-
tices and policies on routes, on entry into the air transportation system, and on
the decisional factors involved in route awards.
In considering at the Board how we might be most responsive and contribute
usefully to the purpose of these hearings, we had in mind your remarks last
December when you announced the convening of these hearings. We have also
received the opinions expressed before this Committee during its session on Feb-
ruary 6 by representatives of various federal entities on possible approaches to
regulatory reform and on the principal Board activities that could be usefully
reexamined. With these thoughts in mind, I would like, first of all, to present a
brief description of the statutory framework within which we operate. Then I
will seek to set forth as succinctly as I can where we stand today on the question
of route authority and how we plan to ensure that our route practices and pro-
cedures are truly responsive to the public's best interests in air transportation.
By enacting the Civil Aeronautics Act in 1938— the predecessor to the Federal
Aviation Act of 1958— Congress determined that the play of free market forces
alone was not sufficient to assure the long-term stability required for the develop-
ment of a sound national air transportation system. As a result the Civil Aero-
nautics Board was created and vested by Congress with extensive powers to
regulate the air carrier competitive environment. Specifically, the Board was
granted, among other things, the exclusive power to control entry into and exit
from the air transportation system. v, t> .^i-
A reading of the Board's major route decisions will show that the Board s
overall route policy since 1938 has had two distinct but related goals : first, to
expand the number of markets in which air service is provided ; and second, to
promote the expansion of competition among air carriers. In general, the expan-
sion of competition in an expanding market has been a primary underpinning of
661
the Board's route policy since 1938. It has long been recognized that the competi-
tive environment that exists in our aviation industry has been responsible for the
development of the high level and quality of service enjoyed by the traveling pub-
lic in this country, which service constitutes the most extensive, convenient, eflS-
oient and least costly air transport system anywhere in the world. A very
important secondary result of the Boards competitive route awards has been the
expansion of first air service opportunities to many city-pair markets as a result
of the tacking on of new points to the existing system of a successful applicant.
With these primary goals of the Board as our premise, it is useful to take a
look at how our present system of trunk carriers and local service carriers came
into being.
The original domestic air transport system of nineteen carriers were established
in 1938 under "grandfather" rights by Congress. This initial nucleus presented
the Board with a fairly competitive route structure relative to the infant size
of the industry. Only four carriers at that time had what we now consider to be
trunkline type route structures : American, Eastern, TWA and United. The other
carriers, such as Continental, Delta, Northwest and Braniff, were small regional
operators performing feeder-type services similar in many respects to the subsid-
ized services now performed by local service carriers. These other carriers were
in some cases considerably smaller than many of today's air taxis. Competition
was fostered by expanding the operating rights of the smaller trunks into markets
served by larger trunks, thereby strengthening the smaller carriers and equalizing
traflSc opportunities. At the same time, the routes of the larger trunks were also
enlarged. I should note that during that entire period, the industry's traffic growth
averaged 16 percent per year.
Since the mid-sixties the Board has been permitting the local service carriers
to enter markets served by trunkline carriers. The result is that in a very real
sense many of these carriers have evolved into small trunkline carriers. The ex-
pansion of local service carriers accomplished several important objectives. By
strengthening the carriers' route systems the Board accelerated the time when
government subsidy may no longer be required. And, by increasing market op-
portunities, the regional carriers were enabled to modernize their fleets and enjoy
other technological improvements.
As you know, Mr. Chairman, the Board's route award policies were not limited
to the trunk and local service carriers. In addition, various specialist carriers
were authorized to provide service in competition with trunkline carriers. These
include all-cargo specialists that compete for cargo over routes served by trunks :
the supplemental carriers that compete for charter traffic with the trunks ; various
Alaskan and Hawaiian operators ; and certificated helicopter carriers. A new
trunkline carrier, Trans Caribbean Airways (now merged with American) was
awarded a certificate, and certificates authorizing service over limited routes
were awarded to Aspen Airways and Wright Air Lines. In addition, in the
midfifties the Board authorized 26 supplementals to provide individually ticketed
service in competition with the trunks. The courts, however, ruled that this action
was not authorized by the Act. Congress subsequently authorized the award of
supplemental air carrier certificates, but precluded such carriers from perform-
ing individually ticketed service except under very limited circumstances.
I would also note that in July, 1974 the Board established in the New England
Service Investigation a new regional airline, Air New England, to provide service
between New York and Boston and at least 12 other New England points in
Maine, Vermont, New Hampshire, and Massachusetts, That carrier is now in
certificated operation. I believe that the" Board's action in that case highlighted
that the Board can respond, as the circumstances permit, to demonstrable service
inadequacies with a bold exercise of its statutory authority and mandate.
Before proceeding to the matter of competitive service, I think it should be
noted that the Board authorizes air service by the exemption process as well as
by certificate award. I am sure everyone is familiar with the commuter carriers
which use relatively small aircraft to provide feeder service to hundreds of the
nation's small communities and sometimes serve high density, short haul, markets
such as Washington-Philadelphia, or San Juan-St. Thomas. In addition, the
Board frequently issues a more specialized type of exemption which we refer
to as a large aircraft exemption — that is, an authorization to use equipment
larger than that used by air taxis — where there is a showing that a relatively
limited or specialized type of service is required.
One of the issues that concerns this subcommittee, the administration, and a
broad segment of the public is how the Board views competitive service. There
662
is no question that in its liistory of route awards the Board has affirmed its
recognition of the merits that can flow, in appropriate situations, from competi-
tive service. A recent Board opinion said, in fact, and I quote, "We also bear
in mind that the need of the traveling public for air transportation service is a
paramount element of public interest, and the competition ultimately holds the
greatest prospect for vigorous development of air transportation. . . ." ^
Over the years and as a result of several hundred cases the Board has developed
standards for considering awards of competitive authority. These standards
break down into two broad decisional categories — first, need for service, and
secondary, carrier selection. Under the need for service category, the Board
evaluates, based upon the evidentiary record, the extent to which the existing
services of the incumbent are deficient and whether the markets are large enough
to support additional service immediately or in the near future. Factors con-
sidered in determining "service deficiency" include to greater or lesser degrees,
the number and timing of the incumbent carrier's flights; the quality of such
flights (nonstop, 1-stop, multistop) ; the load factors on the flights ; the particular
patterns of service provided (i.e., the additional points served on the flights) ; the
service amenities, etc.
If it has determined that competitive authority is required to improve the
efficiency and quality of the service, an equally difficult task for the Board
is that of carrier selection. Carrier selection criteria include the question of
which carrier can provide the most service benefits to passengers in the particular
city-pair market under examination as well as in "beyond-area" markets; the
need for carrier strengthening, which includes an examination of individual
carrier profitability over the proposed route; the degree of historic identity
in the market in issue ; the extent of diversion from the incumbent, which varies
by individual applicant, depending upon its route structure.
Furthermore, in weighing the application of any new entrant, the Board has
historically considered the probable diversion of revenues from existing carriers,
the effect of that diversion on Federal subsidy payments, and the possible impair-
ment of the ability of existing carriers to continue to serve their own routes,
including those cities on their routes which they may serve at a loss. I want
to say in this connection that the Board has no policy which precludes the entry
of a new carrier. Nonetheless, it must be acknowledged that an applicant who is
not an existing carrier is at a substantial disadvantage vis-a-vis existing carriers.
This is because such an applicant, by definition, is unable to provide service to
"beyond area" markets, which, as previously mentioned, is an important stand-
ard in determining carrier selection.
Thus, in any case involving a choice between an existing carrier and a would
be new entrant, the existing carrier can virtually always show that it will be
able to provide substantial public benefits in the form of through service to
numerous points, in addition to those at issue in the proceeding, whereas the
new entrant cannot make such a showing. In view of this and in light of the
capital outlay required to serve a scheduled route, it is not surprising that appli-
cations by new entrants into the trunkline field have been relatively few.
The degree of competitive expansion authorized by the Board has varied from
time to time depending upon the state of the general economy and of the airline
industry, as well as the rate of traffic growth. These are all factors which are
inextricably interwined. On top of that, the Board has recently had to focus on
fuel supply considerations and environmental matters.
The earnings of the airline industry are extremely erratic. They are far more
cyclical than is the case with most other industries or the economy as a whole.
During the depressed phases of the cycle, when traffic declines and carrier losses
increase— such as in the early seventies, the Board has accorded applications
for competitive route authority low priority in order to allow the carriers to
adjust their systems to take into account the routes they and their competitors
acquired during the previous up-cycle and to permit lagging traffic demand to
once again catch up to the capacity increases that seem inevitably to flow from
route awards.
This practice of the Board has been subject to severe criticism, to the point
that it has been characterized by its critics as a "route moratorium." I think
you will find, Mr. Chairman, if you examine the Board's decisions, and the public
Order 72-12-29.
remarks made by Board Members and by its senior staff officials, that this char-
acterization does not truly reflect the Board's policy. On the contrary, the Board
is keenly aware of its statutory mandate to be responsive to route applications
and to act upon them as speedily as possible in keeping with the circumstances
of each such application and with the judgmental decisions, with which it is also
entrusted, to assign necessary priorities for its work. The Board's activities indi-
cate that as carrier earnings and the general economy improve the Board's route
programs have kept pace with the rise in traffic demand and carrier health. In
orders setting an application for hearing, or refusing to do so, you will find
discussion of traffic levels, load factors, the timing and frequency of existing
flights, fuel availability and of all other factors relevant to the question of the
priority to be accorded to the application.
Finally, the Board's policies on exit can be just as important as its policies on
entry in insuring that the American public gets the kind of air transportation
they need, and that the system remains healthy. As in the case of route awards,
the Act requires the Board to balance the needs of individual travelers and com-
munities, on the one hand, with the overall economic efficiency of the system, on
the other. Thus, the decision on a carrier's deletion or suspension request has to
be based on a weighing process. In one recent deletion case, for example, the
historic traffic levels at the communities in question were as low as those of many
points that we had in the past agreed to delete from a carrier's system.^ In this
instance, however, the communities made a strong showing regarding the pos-
sible impact of deletion on their future. Accordingly, the Board decided that the
communities should be given at least another year of air service during which
time they would have to show their willingness to use and promote the service.
In other circumstances, where air transportation economics warrant, the Board
has encouraged the switch from large aircraft service by certificated carriers to
small aircraft service provided by air taxis pursuant to agreements between the
carriers involved. In fact, in the case of one experimental situation of this kind,
the Board provided for a "flow-through" of the certificated carrier's subsidy funds
to the replacement air taxi, thereby providing for air service to a small com-
munity at a considerable savings in subsidy for the taxpayer.^
In concluding these remarks, Mr. Chairman, I want to note that in December
1974, the Board's Bureau of Operating Rights issued a study of the domestic
route system on which industry comments are due on May 1, 1975. The study
was undertaken to accomplish three objectives : 1 ) to assess the existing system,
analyze its development and to determine the effect and extent of service com-
petition ; 2 ) to construct a model for the development of traffic projections to the
year 1985 for the domestic system and individual city-pair markets, and projec-
tions of probable service requirements ; and, 3) to set forth recommendations with
respect to going forward with a new route program. The Bureau recommends in
this study that the Board promulgate new rules to define the standard for priority
hearing of applications involving first effective air service as well as other im-
proved and competitive service. Secondly, the rule would define standards for
determining the priority of hearing cases on service adequacy and other defi-
ciencies in service, as well as excessive service. I would urge that this subcom-
mittee take cognizance of the historical analyses contained in this staff study
in the course of its deliberations.
Let me finally say, Mr. Chairman, that the Board recognizes that the system
can always be improved and, as illustrated by the route study referred to above,
the Board's attempt to fine-tune the system to meet the changing times in a con-
tinuing process. It is difficult in this short space to comment on the many sug-
gestions tliat have been made that the time has come to deregulate air
transportation in this country. I anticipate that these hearings and the questions
generated by the Chairman and the subcommittee staff will provide an adequate
forum to explore these complex and important issues.
My colleagues and I, Mr. Chairman, are at your disposal for any questions you
may care to ask.
[Wliereupon, at 12 :45 p.m. the subcommittee recessed to reconvene
at 2 :15 p.m. the same day.]
2 Order 74-11-19.
' Order 74-4-77.
664
AITERNOON SESSION
Senator Kennedy. We will come to order. Our first two witnesses
this afternoon will be Mr. Donald Baker and Mr. William Kutzke.
Mr. Donald Baker is a Deputy Assistant Attorney General in the
Antitrust Division. Mr. Kutzke is an attorney at the Department of
Transportation who has represented the Department in many CAB
proceedings. He will present the testimony of Mr. John Snow, the
Deputy Assistant Secretary of the Department of Transportation for
Policy, Plans and International Affairs.
The staff had the chance to review the statement of Mr. Baker and
we would like to thank you for the detailed comments concerning
entry policy and route awards. Perhaps you could just summarize
briefly and then we could get to questions. I want to thank you
for coming.
STATEMENTS OF DONALD I. BAKER, DEPUTY ASSISTANT ATTORNEY
GENERAL, ANTITRUST DIVISION, DEPARTMENT OF JUSTICE, AND
WILLIAM A. KUTZKE, OFFICE OF THE GENERAL COUNSEL, DE-
PARTMENT OF TRANSPORTATION; ACCOMPANIED BY DONALD
FARMER, SPECIAL ASSISTANT TO THE ASSISTANT ATTORNEY
GENERL, DOJ
Mr. Baker. Thank you, Mr. Chairman. I would like to introduce my
colleague, Don Farmer, who has worked extensively on airline matters
over a period of time. He is special assistant to the Assistant Attorney
General and a resident expert.
Let me just summarize very briefly what I have got in my statement.
I would make about five or six key points. First of all, entry and
pricing are very closely related. The entry threat is a vital considera-
tion if you are going to have pricing flexibility. Moreover, an open
entry policy without pricing flexibility tends to just produce waste.ful
service competition and is really not a very useful alternative.
My second general point would be that route policy is really con-
cerned with two kinds of competition : First, the city-pair competition
for actual passengers; and, second is industry-wide potential com-
petition between carriers to get on different routes.
INITIAL FINANCING OF AN AIRLINE ( ECONOMIC BARRIERS TO ENTRY I
Third, the CAB has been very restrictive in its approach to these
entry questions and particularly its approach to new entry into the
industry. What it has done, and the statement details it, is basically
confine the trunk route awards to the firms that were in the industry
in 1938, the grandfather carriers. The result has been a lack of new
blood in the industry ; we have a set way of doing things.
Senator Kennedy. How do you respond that new airlines cannot
get the necessary initial financing. These trunk carriers are going to
need enormous amounts of capital to get started, so this is really as
much a process of market forces as a CAB decision.
Mr. Baker. I would respond by saying I do not think it is so. I
would say that for several reasons. For example, the innovative Cali-
665
fomia carriers, the PSA's and the Air California's, have gotten ab-
solutely no encouragement from the CAB potential tninkline carriers.
Senator Kennedy. You have heard that California and Texas are
really specialized.
Mr. Baker. I understand their arguments and I have heard them
as often as you have.
Senator Kennedy. That is right. Probably more.
Mr. Baker. But, no, the point is, if I recall correctly in the early
sixties, PSA and Air California tried to get interstate authority to
go into the Northwest and there was absolutely no Board interest
whatever in allowing that kind of thing. Second, the witness this
morning from United Air Lines pointed out the fact that a new entrant
was, in fact, quite likely to be able to put the thing together, leasing
planes and crews; and, therefore, the vast scale, the vast capital argu-
ment, really did not hold water.
So I think that the argument that nobody else has gotten in be-
cause they were not around and did not want to get in and did not
have the capability is just plain not true.
Obviously, we will look carefully at any evidence to the contrary,
in terms of hard facts. But, of course, it is very hard to pin down.
Coming down from the Board's generally restrictive policy on entry
into the industry to their particular route award policy, here it seems
to me that— and this has been the question of passing out routes among
the existing carriers within the club — ^the Board has made at least
two errors that are outlined in my testimony. First of all, the Board
has emphasized service competition over price competition. It has
just simply allowed people on with no real opportunity for fully com-
peting, as you and Senator Thurmond were talking about this morning
in terms of offering different mixes of quality and service.
And second, the Board and the staff proposals have emphasized rates
of return and so forth excessively, indeed, this has been their main
preoccupation. .
Now I would draw from this history of both the entry mto the in-
dustry and the particular route awards some conclusions. First of
all, the Federal Aviation Act has not required the CAB to behave
in this way. The Act lets them
NEED FOR LEGISLATION
Senator Kennedy. You heard Mr. O'Melia indicate this morning,
in response to Senator Thurmond, that to really open up the entry
process might very well require changes in the statute itself, that
they are under mandate by the Congress to promote a certain kind of
air transportation system, and that if Congress wants to do otherwise—
and this is implied time after time in responses by members of the
Board — will require revision of the congressional mandate.
They are ready to do it if Congress wants it. And if Congress does
not act, they know the wav the act has been enforced in the past.
Mr. Baker. Well I heard that and I also heard Acting Secretary
Barnum last week say the opposite, namely that the Board could do
it if it wanted to. And with all due respect, I agree with Mr. Barnum.
The Board has, on pricing and entry, the legal authority to adopt very
open rules and very open price indexes.
666
Senator Kennedy. You are satisfied from the legislative history
and your reading of the statute that this power exists within the
Board itself.
Mr. Baker. Yes. I think that the power really does exist. In a sense,
what the acting chairman said this morning was that we have ad-
ministered the statute in one way for a long time and, unless the
Congress gives us a new set of orders, we are going to go on doing
it that way, which leads me
Senator Kennedy. What is your answer to that ?
Mr. Baker. That you ought to change the statute. And, basically,
the fault lies with the discretion the agency has and the use of it. Now
this is not a unique situation with the CAB. In fact, the history of
regulatory agencies generally has been that they have been granted
'broad discretion, they have generally been influenced heavily by the
people they were supposed to regulate, and they have generally ex-
ercised the discretion in favor of the people who they were supposed
to regulate.
And this is what Jordan calls the cartel theory of regulation, and
it is not surprising that here we have this system of regulation, which
is supposed to protect the traveling public, but its leading champions,
who sit around these tables, are not the traveling public, but the car-
riers. This could be repeated industry after industry — banking, se-
curities, whatever.
And I have dealt
Senator Kennedy. So you are satisfied it is really a question of the
Board's implementation of the act. And as I understand, in terms of
the history of the CAB, there have been times when the Board ac-
tually has had a more liberal policy in terms of entry.
Mr. Baker. That is correct.
Senator Kennedy. And you can call upon that as being a sufficient
precedent. How do you respond to the fact that most of the people
that have spoken on this issue are from industry? You have heard
the gentleman from United Air Lines, Mr. De Voursney, who indi-
cated that if the CAB is, in fact, a captive agency, look after us if
they ever turn against us.
IF THE CAB PROTECTS THE AHILINES, WHY AREN't THEY RICH?
How do you respond to the point that is made again, time and time
again, that the airlines really have not experienced good times ? This
point is made frequently, but it really has not got a basis of fact,
because if it did, the airlines would have shown a good deal more
lucrative profits than they have been permitted over the period when
they have had a restrictive policy of entry and when they have kept
up price.
Mr. Baker. I see this a little differently. What they have had all the
way through is a restrictive policy on price and a varying policy on
entry by firms already in the industry. And the result has been that,
while established carriers are allowed on particular routes, they are
tied down by a fixed price scheme. They are allowed to put on as many
seats as they want. And, basically, what you have had is the rates
set to earn a monopoly profit and then the carriers have proceeded
to compete away the monopoly profits in empty seats. And this is not,
667
again, unique to this industry. The securities industry, which has the
same kind of price regulated scheme with no particular control over
entry and facilities, the securities firms have competed away monopoly
profits in the same way.
So I do not see regulation as a guarantee. Senator Kennedy, of
a comfortable life. I see it as a guarantee that they will be allowed
to compete in a way they prefer to compete rather than through price
competition.
Anyway, to finish off the points in my statement, this leads us to
recommend that the agency discretion must be changed. It must be
limited or eliminated. And we suggest a range of possibilities that
are under consideration, including some form of clear statutory com-
mand to the Board that it allow entry unless it is able to make specific
findings that there would be harm from allowing new entry. In the
parallel surface transportation area, the administration suggested in
1971 that entry be allowed unless there is a showing that new entry
is likely to result in less service rather than more in a reasonable
period.
The other broad alternative mentioned was the possibility of just
eliminating CAB control over rates and entry as a part of a general
deregulation scheme. And again, we say that is one of the things that
is under consideration.
Senator Kennedy. ^^Tien will we know what the Department posi-
tion is ?
Mr. Baker. Two weeks ago, acting Secretary Barnum said 6 Aveeks.
Last week he said 5 weeks to another committee. Therefore, this week
I will say 4 weeks. I do not know anything going on that has put us off
our schedule, and we are actively at work.
Senator Kennedy. Do you want to reduce it to March 4, when you
are coming back ? You can make a note of that.
Mr. Baker. March 4 does not sound right to me, especially since I am
going to be out of town half the time between now and then, except for
your hearings.
EFFECT OF OPEN COMPETITION ON SMALL-TOWN SERVICE
This is my last point. Any proposal like this tends to lead to the
argument that there will be no service, or service will greatly go down
in thin markets. You have heard that this morning, and basically, the
testimony suggests several answers to this.
First of all, that the efficiencies, the incentives to efficiency in run-
ning a route system remain under freer entry^, and indeed, the manu-
agement has greater discretion in how it uses its planes to optimize the
route operation in a freer entry situation.
We offered you the Bar Harbor example because we thought we
ought to have some example from New England. There an unregulated,
open-entry kind of situation resulted in regular year-round service
from Bar Harbor to Boston, which had not been available before.
It is possible, it seems to us, that a more competitive environment
would lead to more efficient operations and, therefore, would lead to
lower levels of subsidies being needed. If there are to be subsidies, we
think that they should be spelled out as clearly as possible, as indeed,
you said this morning. We should all know who is getting paid what
668
and how much it is costing the rest of us. We feel very strongly that
the cross-subsidy approach is inequitable and inefficient — that it
basically flows from a premise that 'Svhat the public does not know
does not matter." A person who is flying on the Birmingham-to-Boston
route does not know that he is being subsidized by you on your trips
from Washington to Boston, and it is not clear that he would vote for
it if he did know about it. Cross-subsidy is a completely subterranean-
type of thing.
Moreover, if you set up a scheme that is based on cross-subsidies, you
then have to erect all kinds of very special barriers to make sure that
the profits are not completed away in a monopoly market, and hence,
not available to cross-subsidize the high-cost, low-volume markets. This
has just been a persistent problem throughout regulation.
We feel that the air experience is not significantly different from the
communications industry and other areas of transportation, and the
cross-subsidy argument should be scrutinized carefully.
DEPENDENCE OF SMALL-TOWN SERVICE ON CROSS SUBSIDY
Senator Kennedy. Are you working on the cross-subsidy question as
well, to determine the magnitude of it ? We have asked the airlines for
this kind of information and
Mr. Baker. I would honestly have to say that we have not seen
good data— at least I personally have not seen good data on the cross
subsidies, and
Senator Kennedy. Is there any reason why you could not work with
the DOT on that particular issue?
Mr. Baker. We can use the same telephone system and so forth.
And I will say quickly that the Department of Transportation has
been concerned over a period of time with cross subsidies, and this
is not a situation where I have been beating on their door and they
have not been providing data. It is simply the fact that I have been
doing other things and not perhaps doing what I should be doing.
That completes the presentation.
Senator Kennedy. I would like to know how you respond to a
number of questions ? United Air Lines appeared to indicate that 145
nonstop segments will be lost, that will not be served unless they have
this kind of a cross-subsidy.
What kind of assurance can you give us that, if we have policies
of freer entry and more price competition, that people in Binghamton
are going to get any kind of air service? They are getting some now.
They might even be getting it at a reasonable price.
United Air Lines indicates that all of these other Binghamton's
around the country will not be served if we permit freer entry and
lower prices. What do you say about that ?
Mr. Baker. Well, what I say is that clearly we want to look at the
facts very carefully because, in fact, people are serving these thin
markets which, by and large, are monopoly markets. They are doing
so because they have applied for routes on which they thought they
could make a profit and are serving on them. When they do not
think they can make a profit they have sought to suspend, and in
many cases been able to suspend.
Indeed, the Bar Harbor example is a situation which flows out of
Northeast moving to suspend, someone else being brought in with sub-
stitute service which was relatively infrequent ; and Bar Harbor Air-
ways coming back and offering more frequent substitute service. There
is a lot of flexibility on different kinds of equipment. You may find
that a DC-9, for instance, is not economic on a market where a smaller
plane would be. And anyone who has spent time, as I am sure you
have and I have, flying around New England on Air New England
and so forth, has seen a variety of smaller planes on routes that used
to have larger planes. There is still service. And so I am not convinced
that route security is the key to service in these markets.
Senator Kennedy. How do you make a decision whether competi-
tion is going to be beneficial or whether it is going to be destructive ?
We hear both sides. We are hearing from World Airways that it
would be beneficial, and from United that it would be destructive. How
are we going to really know, and how do you make your judgments?
Mr. Baker. What is involved, what destructive competition involves
is somebody pricing something down below his variable cost of pro-
viding it for the purpose of driving other people out. Now, as I indi-
cated in my testimony, this is not a very frequent occurrence in the
real, the unregulated world. We do not find in antitrust investigations
that this occurs very often. It occurs much more frequently in a regu-
lated environment because in order for it to work, new entry has to be
held out. AVhat you have to do is to cut your price down below your
variable cost, which means you lose your shirt for awhile, and then
somehow or other, to make it rational conduct, you have got to be able
to get your shirt back. And the way you get your shirt back is by
charging monopoly prices and not having anyone come in.
Now in the real, unregulated world, that does not happen. Other
people come back in. In the regulated environment, I have seen situa-
tions where a carrier expected to knock someone off a route or put them
in the corner, and then afterwards clean up at regulated price levels.
THE INTERLINE NETWORK AND OPE!N COMPETITION
Senator Kennedy. You are satisfied that this national network
concept, which I think is almost the sacred cow of the airlines in-
dustry, would not be so altered as to create a jungle of difficulty for
the traveling public, were we to go to a competitive situation.
Mr. Baker. The national network is essentially a set of interchange
arrangements, interchanges of baggage, and tickets, and facilities,
and so forth, and there is no reason why that kind of interchange
arrangement should not go forward. And in the hearings last week —
and we will come back to this, I assume, in the hearings 2 weeks hence
on antitrust immunities — there are all kinds of cooperative endeavors
in order to make the system work that are perfectly fine from the
antitrust standpoint. I do not see having freer entry in anyway affect-
ing the national network concept. Less regulated carriers have an
equal incentive to be able to interchange traffic and baggage.
Senator Kennedy. What happens when you want to go from Boston
to Detroit and you can only get as far as Binghamton? Are there
not going to be gaps that are created in the system that are avoided
now? We hear this talked about.
Mr. Baker. Well, my colleague, Don Farmer, says you might rather
get to Binghamton than Detroit anyway. But I do not know that
that is the answer to the question.
670
Senator Kennedy. The point is that perhaps gaps would be created
in the network.
Mr. Baker. It would seem to me that, to the extent that there is
business to support a nonstop service from Boston to Detroit, it is
going to be carried. To the extent that there is not business, then you
are going to have to go via some intermediate point.
But the carrier, the Allegheny or whatever, that takes you to Bing-
hamton or that takes you out of Boston, even if it does not go to
Detroit, has every incentive to try to work up some way that you are
going to get through service to Detroit, or Chicago, or Seattle. It
would just encourage you to use a plane.
ANALOGY TO OTHER UNREGULATED INDUSTREBS
Senator Kennedy. Are there any other kind of systems, analogous
to the airline system, which are not regulated and yet which provide
for interchangeability and integration? Are there such systems that
work well?
Mr. Baker. Yes, certainly. I will give you some examples. One is
the whole bank credit card authorization and clearance system which
is entirely private, entirely outside the regulatory realm and is going
to an automatic online basis.
There are a variety of large, complicated systems which really do not
involve this kind of regulation. And indeed, we threw into the testi-
mony the example of a national hotel authority on the grounds that if
you had for 30 yeare a central reservation system Government admin-
istered and so forth for hotel reservations, you would immediately be
greeted with claims of chaos if it was suggested it should be abolished.
cab staff study on route entry, THE DOMESTIC ROUTE
SYSTEM (1974)
Senator Kennedy. Have you reviewed the staff proposal that was
mentioned ?
Mr. Baker. I have looked at it. Senator. I cannot honestly say that I
have reviewed it in detail. I can make some general cormnent.
Senator Kennedy. As I understand it, in the first place, it requires
a showing that the proposed operations will earn 12-percent rate of
return on investment the first year. Second, it requires a showing that
no incumbent is making less than 6 percent in that market. And third,
it requires a showing that the new entrant will not divert more than 35
percent of the incumbent's traffic.
Now I suppose the question is the competitive effect of these require-
ments, and how they would ultimately translate into entry or price of
travel in the airline industry.
Mr. Baker. Well, clearly, they are highly restrictive and designed to
reduce potential competition to a minimum ; the requirement of earn-
ing 12 percent the first year really almost eliminates it, even where the
market is being badly served. The new entrant has to set up stations,
pay its promotional costs, to pay your promotional costs and still make
this high return in the first year.
As one of the witnesses this morning, I think the representative from
Continental Airlines, said that the 6-percent standard for every carrier
671
that has to be earning at least 6 percent on the market, could mean
that you are supporting awful inefficiency where some carrier on the
route was not earning it because they were an airborne equivalent of
the telegraph company.
Senator Kennedy. Of course, even the airlines that have been func-
tioning have not been able to meet that requirement over the past 20
years.
Mr. Baker. That is right. This is a route-by- route probability. And
it just, you know it seems to me that, taken as a group, those three
standards represent a very strong example of what I was talking about,
an overconcern about the carriers on routes, about the welfare of the
established group and not enough concern about the level of passenger
convenience and the threat of new entry.
VIABILITY OF "REGULATION" BY ANTITRUST LAW
Senator Kennedy. AMiat is your reaction to what was said this
morning. We heard from United Air Lines that substituting antitrust
policy for regulation is just substituting litigation for regulation? It is
not a very high endorsement for the antitrust division.
Mr. Baker. It is a troublesome fact that antitrust cases often do take
a long time, but they do not take longer than the route cases we have
been talking about. And so, I do not feel it is a devastating criticism of
antitrust. And second — to stress an important point that we will come
back to this a couple weeks from now — when you get a decision from
antitrust court, you are getting a decision by a forum that is completely
outside the traditional bilateral relationships between the industry and
the agency. You are out of that closed-circuit situation. And this is the
thing, I think, that is most troublesome to people in the industry : That
suddenly competitive policy questions are going to be made by judges,
not by our regulators. I think that is their concern, not the delays and
the uncertainties.
Senator Kennedy. Mr. Kutzke ?
Mr. Kutzke. Thank you for this opportunity to appear. Mr. Snow
expresses his regret that he could not be here to testify. If you would
like, I v.'ill summarize Mr. Snow's testimony for the record. As ex-
pressed in Acting Secretary Barnum's statement to this subcommittee
on February 6, 1975, the Department has been a strong advocate of
improving the economic preformance of the air transportation indus-
try through increased reliance on competitive market forces. The eco-
nomic performance of the industry must be improved if we are to
restrain the rapidly escalating prices of air transportation and preserve
the use of air transportation for large numbers of travelers. One vital
aspect of this problem is entry and route awards. As a result of the
Board's current route moratorium, the American consumer is not af-
forded the range of price and service options that an efficient market
would provide and often must purchase more service than he wants or
needs.
open entry will hold down fares
Wliat we need, in terms of entry, is a two-pronged approach. First :
We need to weigh the entry standard more heavily in favor of compe-
tition and efficiency. Second : We need a requirement that cases before
672
the Board be decided promptly. The Board must focus upon the needs
of the public and the need for competition and innovation, and place
less emphasis on the impact upon the existing carriers. Adoption of this
approach would not necessarily lead to the addition of new carriers on
each domestic route, nor even the addition of new carriers to the ma-
jority of domestic routes. Rather, the basic result of this new approach
will be the introduction of potential competition to ensure that the
domestic air markets operate efficiently and that the consumer obtains
the price and service option of his choice. The threat of potential entry
will police and discipline market behavior and ensure competitive mar-
ket results. Liberalized entry will place firms on the edge of the mar-
ket, able and ready to step into that market when the consumer is dis-
satisfied with the existing service and price. This dissatisfaction wall
attract entrants. But we think that the existing firms will act as intelli-
gent businessmen, improve their efficiency, and keep their prices low
enough to keep new firms out. This is the concept of threshold pricing.
Prices are kept high enough to make reasonable profits, and low
enough to keep new competition out. The consumer benefits.
Occasionally, an outsider will be able to enter the market because
he will be an*^innovator and offer a new service, or be more efficient.
Because of the costs associated with entry, however, he will be the
exception to the rule. But the fear of his competition will spur the
existing carriers to even greater efficiency and to their own innovation.
We are confident the result will be a more efficient and innovative air-
line industry, providing the public with better service and more price
and service options.
Even though this hearing deals with entry, it is important to con-
sider entry in the context of price flexibility. As you will remember,
Acting Secretary Barnum testified in favor of the need for more
pricing flexibility before this subcommittee. One criticism of pricing
flexibilty is that' only the strong firms will take advantage of it, and
they will either drive prices up or, in the alternative, drive prices down
temporarily to destroy competition, and then increase price when the
competition is gone. Liberalized entry and the threat of potential entry
is the regulator and enforcer which assures that pricing flexibility will
not be misused. With liberalized entry, strong firms will not be able
to drive the price up because of the threat of competition. With liber-
alized entry, strong firms will have little incentive to underprice their
services to drive out old competitors because there is always the threat
of new competitors. Thank you. Senator.
CROSS subsidy: insubstantial and inefficient
Senator Kennedy. Thank you very much.
What is your interest in this cross-subsidy issue ? Wliat, if anything,
are you doing?
Mr. KuTZKE. Our interest in it is to make sure that the transporta-
tion system functions effectively and efficiently. It has been our view
that a transportation system which incorporates large elements of
cross-subsidy is not operating as efficiently as it ou^ht to, and not pro-
viding the types of service the market actually desires. We have ex-
amined at the cross-subsidy issue as part of our presentation in the
domestic passenger fare investigation. Our research convinced us that
673
cross-subsidies were not efficient, and that there was very little cross-
subsidy in the fare structure, in terms of the actual way the carriers
actually operated. The final decision in the domestic passenger fare
investigation sets a fare tapes which is very close to what is perceived
to be the cross-taper of airline costs with distance, leaving very little
room for cross-subsidy.
FAILURE or cab's ATTEMPT TO CROSS-SUBSIDIZE LOCAL SERVICE
CARRIERS IN LATE SIXTIES
Our v-iew has been that carriers generally, in markets where they
are supposed to be earning losses and cross-subsidizing these losses
with other profitable services, have an incentive to reduce service to a
minimum level consistent with minimizing losses. The Board, in its
staff study of service to small communities, looked at the question
of whether its route policy for local service carriers produced cross^
subsidy dollars to finance low-denstiy routes. The study found that,
while there was a benefit to the public, in terms of expanding local
service carrier opportunities, local service carriers were not earning
cross-subsidy dollars in the new markets to subsidize low-density
routes.
[In answer to an inquiry by the subcommittee staff, Mr. Kutzke
identified the study referred to here as CAB, Bureau of Operating
Rights, Service to Small Communities (March 1972), and recom-
mended inclusion in the record of the following passage from pt. Ill,
pp. 25-27, of that study. The passage referred to, follows :]
*******
♦ * * The principal specific policy for achieving the seemingly contradictory
goals of reducing subsidy and retaining service to small communities was cross-
subsidization under the now abated route-strengthening program. This approach
appeared promising in the high tide period of route cases in the middle and late
sixties. Under the revenue sharing and ad hoc provisions of class rate IV, subsidy
was declining, and applications to cease operations at small communities were at
a low ebb. However, in retrospect, the route expansion program and the cross-
subsidization of existing routes appear to be counterproductive. The route-
strengthening policy has not resulted in discemable cross-subsidization for most
of the locals. It has, in fact, put them into two distinct markets requiring two
distinct types of operations and equipment. The one market clearly requires
subsidization, while the other market is unable to provide sufficient funds for such
subsidization. .
If the more dense markets were open to local carriers on a monopoly basis,
they might then have some cliance to earn sufficient funds for cross-subsidization
of marginal markets.' Many objections could be raised to such a policy of cross-
subsidization. In the first place, such a policy merely shifts the burden of low-
density loss points from Federal taxpayers to airline customers travehng on
routes which generate the funds for subsidy. Second, higher air fares in monopoly
markets will restrict the quantity of services demanded in these profitable areas
and divert potential air passengers to competitive modes of travel.
Although the government may wish to change the allocation of economic re-
sources, changing the allocation through cross-subsidization is an inefficient
means, since the governiiunt has litrlc assurance that its desired pattern of allo-
cation will result from the actions of private firms. Cross-subsidization ties the
amount of subsidized service to the level of profits in another market. There is no
1 Monopoly In an air transportation market Is a neressarv but rot a ""^^^nt conrlltlon
for cross-subsldlzatlon policies. The market must also be isolated from meaningful surface
competition. Otherwise, an airline attempting to charge higher than a competitive fare
would simply drive more passengers to surface modes.
674
assurance that this method will lead to the government's desired pattern of
service/ Further, if such a policy of cross-subsidization were to work, there is
reason to believe that carriers no longer dependent upon government subsidy
payments would make every effort to shed their unprofitable routes and points of
service in order to increase business profits. The incentive to perform loss services
would be gone and they would retain such services only insofar as they were
forced to do so. This would likely result in deteriorating service to small com-
munities and demands for a new class of subsidized carriers more devoted to the
provision of small community air services.
However, the local service carriers have not been moving into more dense,
profitable routes on a monopoly basis. Rather, they are entering markets in
competition with trunklines earning normal (currently below normal) profits.
One need not assume predatory competitive practices to conclude that the
amounts needed for extensive cross-subsidization of unprofitable routes will not
be forthcoming from such markets. Since there is a taper in air fares, with higher
per mile fares in short-haul markets served by local carriers and lower per mile
fares in longer-haul markets of trunklines, a fare sufficient to generate revenues
for cross-subsidization of low-density short-haul routes would yield abnormally
high returns to the trunklines. This would also interfere with the relative pricing
in long-haul markets not involving local service carriers. As a complementary
policy to assist in low-loss situations, cross-subsidization can and will work. But
as a solution to the long term problem of service to small communities, cross-
subsidization is uneconomic and can make only a minimal contribution to the
solution of the basic problems of air service to small communities.
AIRLINES' CLAIMS OF CROSS-SUBSIDY
Senator Kennedy. Of course, there was clear testimony this morn-
ing from some of the airlines that the cross-subsidy still exist, and is
a rather important aspect of this network of air transportation ; this
is certainly, the testimony of United Air Lines.
Mr. KuTZKE. Yes; what is uncertain about United's testimony —
it is very interesting testimony — is that we do not know what kind
of costing they were using in their description to you. Were they talk-
ing about the fare calculation methodology used the domestic pas-
senger fare investigation? Were they talking about internal costing?
Senator Kennedy. I thought they said variable costs.
Mr. KuTZKE. They said variable costs, but I do not know how they
calculated variable costs. Are they using United's internal cost sys-
tem, or are they using the kind of regulatory costing system the Board
uses. Also, we do not know how important those markets are from the
description given this morning. Are they markets that are operated on
an entry-mileage basis, where the aircraft is being routed from one
city to another for an operational purpose, or are they markets that
even in a competitive system the carrier would desire to operate for
some reason? What percentage of United total revenue passenger-
miles were produced in those markets? They are also talking in terms
of segments, but they certainly are not the most important segments
in the United system.
Senator Kennedy. So, what is your feeling about whether those
kind of routes would be abandoned under a competitive system?
* See Luclen Foldes, "Domestic Air Transport Policy," Part II, Economlca, vol. XXVIII
(August 1961), page 272.
675
Mr. KuTZKE. I think you would have to look at those on a segment-
by-segment basis. It is quite possible that United might not be able
to serve them, but it is possible another trunk can-ier rnight.
Senator Kennedy. What consideration should be given to an appli-
cant wlio came before the CAB and indicated it can provide service
at less cost to the traveling consumer? Should that be given a very high
consideration, or a low consideration, or should it indeed be given any
consideration ? What do your studies show ?
Mr. KuTZKE. Senator, we think that should be given important con-
sideration, particularly for applicants who are offering a new type of
service in the market, for example, a new type of shuttle service, a type
of very high-density, turnaround service. All those things should be
given consideration. Under existing Board procedure, there is not
much opportunity to make a case for lower fares in a route case, be-
cause at the present time, all fares are calculated according to proce-
dures used in the domestic passenger fare investigation. An applicant
would not norm. ally be filing a lower fare proposal. The Board has
not indicated they are going to give decisional significance to that,
and because of that, the carriers do not propose lower rates in route
cases. They do not make them a key element of their service proposal.
Senator Kennedy. What was your reaction ? Was there really a
moratorium for a couple of years, or are we just wrestling with words?
And whatever you want to classify it, do you think it was legal or
illegal?
Mr. KuTZKE. Well, you may wrestle with words, but the fact is, in
the last. 5 years, the Board simply has not been granting very many
new route awards. Applications have been filed and the Board has not
heard them, or they dismissed them on grounds which, in earlier cases,
almost would have certainly gotten the carrier a hearing. North Cen-
tral offered a list of such cases in its testimony this morning. These
cases would almost certainly have been set for a hearing and new
authorizations would have been granted to carriers. Our feeling is that
a carrier that files an application with the Board has a right to get a
speedy hearing on that application. It should be decided pro or con.
DESTRUCTI\TE COMPETITION
Senator Kennedy. You have important responsibilities, obviously,
in the Department of Transportation system. Do you not think that
if there were more route entries, that you might have destructive com-
petition, and get a breakdown in the whole national network system?
Mr. KuTZKE. I do not think that would happen. Senator. At least,
our information does not suggest it would happen. The economic
studies that have been done of the industry do not suggest this is the
type of industry which would produce destructive competition. The
experience of commuter carriers suggests that there is little likelihood
of destructive competition. In situations of freer entry, such as in
California and in Texas, the results have not suggested that destruc-
tive competition has resulted. And, finally, the Board is still in place
to monitor what is happening on routes and it can police any potential
destructive competition.
Senator Kennedy. Do you not have a responsibility, though, in
terms of the development of automobile or bus, air, sea transportation.
676
rail ; and how does all of that fit together with what we hear in terms
of air transportation? If you recognize the importance of the develop-
ment of an integrated system, perhaps we should not have air trans-
portation in some areas, and people ought to be getting there by rail-
road or by bus, saving the public a good deal of money. How does all
of that funnel through your office in coming up with an integrated
system?
Mr. KuTZKE. It actually funnels through the Assistant Secretary
for policy. He makes these balancing decisions. Basically, in looking
at markets, we do try to see that there is a balanced transportation
system in place. In looking at subsidy issues particularly, where you
have conmiunities, for example in New England, who have sought air
service, DOT looked very hard at the alternate transportation sys-
tems available — buses and trains and the kind of interstate system was
provided — in making a decision as to whether to recommend to the
Board that these communities should receive subsidized air service.
Senator Kennedy. I am going to vield to Mr. Breyer for just a few
minutes for some questions, and I will be right back.
COURT CHALLENGE TO "rOUTE MORATORIUM"
Mr. Breyer. Has the Department of Transportation ever considered
taking the Board to court on the route moratorium ?
Mr. KuTZKE. No, sir. We have not. We have been in a number of
CAB cases. We have not been in many domestic route cases recently.
We just have not focused our efforts in that area. I understand there
is at least one case pending in the court of appeals now dealing with
this issue. I believe, it is the San Diego-Denver case. The Department
of Justice will be representing the United States.
STUDIES ON CROSS-SUBSIDY
Mr. Breyer. I would like to get back to the question of cross-subsidy
for a minute. Do you have studies on the cross-subsidy problem ? Have
you prepared any papers ? It is a major arjrument, obviously, and we
are trying to find out from the industry the extent to which routes if
any are cross-subsidized. And, as you point out, the accounting
problems are enormous. How do you figure it out ?
The ultimate question was pretty clear. The ultimate question we
would like to know is, if you did move to a more liberal entry system,
a more liberal rate system, along some kind of zone reasonableness
in pricing which I think you have advocated, what routes would be
lost ? Are there a lot of them ? Will those people not get service ? Where
are they ? How many are there ?
Now, I think you and the Council of Economic Advisers believe
there are not many that will not get service. Is that right ?
Mr. Kutzke. That is right.
Mr. Breyer. But is there a way that we can actually get into this
problem, to make a sensible judgment about it? We have asked the
ATA to produce data for us, and we have asked the airlines to do the
same. Could you try to provide us with some information, some back-
up information, to help us answer that question ?
677
Mr. KuTZKE. We would be happy to submit the same materials to
you that we have submitted in the domestic passenger fare investiga-
tion already and anything else that we have in-house.
Mr. Breyer. You might check and see if it woidd be all right, for
example, to show your materials to the airlines ; and perhaps we will
try to ask them if *it is all right to the same extent to show them your
materials, so we can perhaps
Mr. KuTZKE. I should say this. In the domestic passenger fare in-
vestigation, where you would have thought there would be a good
hearing record on the cross-subsidy issue and evidence regarding
what routes are being cross-subsidized, by which routes and by which
carriers, there is very little hard factual information. Most of it comes
by separating carrier costs into mileage blocks and then looking at
some mileage blocks as supposedly providing cross-subsidy to other
mileage blocks, there is very little on the markets themselves. In fact,
I suspect that you would almost have to look at the traffic moving m
each market and figure out independently whether that route could
sustain a viable operation in conjunction with other routes.
Mr. Breyer. One thing that would help very much is, could you
suggest questions we might ask the ATA and the carriers? We are
trying to create a dialog that might actually end up with productive
results. Do you think that is a feasible thing?
Mr. KuTZKE. It certainly is.
TRANSITION TO COMPETITION
Mr. Breyer. There is another question that I think honestly worries
a lot of carriers, in the policies that you and the Justice Department
have suggested. Are the new liberal entry policy and zone competition
going to come about all at once, or is there going to be some kind
of an interim period, if we are moving to a new world in the airline
industry? Is it possible to work out transitional arrangements, so
that people are not hurt too severely, people who have relied upon the
old world ? Have you gone into that at all ?
Mr. KuTZKE. Yes; I will comment on that. First of all, in the pas-
senger fare investigation, the Board for the first time imposed load
factor standards. In recognition of the fact the carriers needed tran-
sition time to begin living with this new world, the Board permitted
several years of transition. They established a 52V2-percent load factor
to give the carriers time to change. That standard is now 55 percent.
Our original pricing flexibility proposal in the DPFI was 15 percent
above and below an average cost curve. We felt that the zone could
be placed in operation immediately because it was within the range
that reasonable movements of price could be expected, without causing
dislocations.
Mr. Breyer. If there has been thought given to this transitional
problem, we would certainly appreciate the benefit of whatever
thought you have given to it.
Mr. KuTZKE. The notion of transition, of course, is ultimately
dependent upon what kind of a legislative proposal we make.
Mr. Brei-er. Yes. of course it is, and what I am really saying is,
regardless of whether the system is a good one. a bad one, or an indif-
678
ferent once, people have relied on it, and they have built up a tre-
mendous amount of investment on it. How can they be protected, or
not hurt too badly ?
Another question that I think concerns quite a number of people,
and if Mr. Baker has any comments on these additions, I would
appreciate them very much.
Mr. Baker. I always feel free to volunteer, sir.
SAFETY AND COMPETITION
Mr. Breyer. Another issue that is vei-y worrying to a number of
people, and perhaps seriously so, is if we move to this more com-
petitive world, what about airline safety? I know the argument is
sometimes treated lightly, but 1 think there are people who are wor-
ried that, in this new world of, say, a hundred carriers, there might
be such tremendous competition that inevitably, management would
begin to skimp. And that would mean less safe airplanes. I think
that was mentioned this morning, in fact, in Mr. de Voursney's
testimony. It is a very interesting point, and an important one. Have
you given thought to that ?
Mr. Kutzke. We do not have any doubt that the Federal Aviation
Administration has adequate authority to police airline safety. Sec-
ond, I think that the kinds of operations you are talking about are
improbable. We are not talking about people operating on shoestrings.
We are talking about entry by well-financed, soundly managed firms.
Mr. Breyer. Have you put the question to the Federal Aviation
Agency? Have they been forced to think about the safety problems
that might exist if we really were going to move to this real world?
Mr. Kutzke. I do not know the extent they have studied the issue.
Mr. Breyer. Could you check on that ?
Mr. Kutzke. Certainly.
possibility of chaos
Mr. Breyer. Another thing that I think, again, is a serious prob-
lem that some people have brought up is, is it all going to be terribly
confusing ? Will it be possible to make reservations with a large num-
ber of airlines? Maybe some are going out of business tomorrow,
and there are new ones coming in the next day. The competitive idea
sounds all right on paper, and then you think, well, there are all these
different airlines flying around. How do we get reservations? How
do we know which ones are in business today? Is that a serious
problem ?
Mr. Kutzke. Not in our judgment.
Mr. Breyer. You think that is not a serious problem? Why not?
Mr, Kutzke. Either Mr. Baker or I can answer it. In our view,
the firms that are going to be in the airline business are large, well-
financed operations. The entry that we have had in the last couple
of years demonstrates this. One such firm is Southwest Airlines in
Texas. I do not know that anyone has ever suggested they are not a
well-financed, well-managed, safe operation.
The last time the Board allowed a significant amount of entry in
the industry was the certification of supplemental carriers. Ihey
679
operate large aircraft, particularly the big supplementals. They
operate as safely as any other carrier.
Mr. Baker. I would like to amplify on that, from a sort of legal
standpoint ; and that is, I do not think anyone contemplates that the
carriers are going to operate on what you might call a complete free-
for-all basis. You do not have to have detailed economic regulation
in order to impose upon a carrier various common carriage opera-
tions, if that is what you want. In other words, you can say, you
have got to have tariffs, you have got to have schedules, you have
got to fly people based on those tariffs, you have got to fly your
schedules even if only one person shows up. And that, basically, would
say that any consistent failure to perform common carriage types of
obligations would be grounds for not allowing you to fly at all ; and
the notion that you have to tie together common carrier obligations
to serve everyone in equal and nondiscriminatory terms with economic
entry is just a mistake.
Mr. Breyer. All right.
I have nothing more, and I think we will ask for the last witness
to come to the table, and then I think we will recess for a few minutes.
Mr. James Gagnon, of the Airport Operators Council ?
We will stand in recess for 5 minutes.
fA brief recess was taken.]
[The prepared statements submitted by Mr. Baker and Mr. Kutzke
follow. A followup letter from DOT pertaining primarily to this
day's hearing is also included.]
Pbepaked Statement of Donald I. Bakeb
I am pleased to present the views of the Department of Justice on the nature
and effects of regulation of routes and entry in the airline industry, and to
offer some tentative proposals for reform.
Two weeks ago, Assistant Attorney General Kauper gave this subcommittise
a broad overview of the problems associated with Federal economic regulation
of the air transportation industry. He pointed out that route regulation actually
has had a detrimental effect on the public by denying the American people the
type and price of transportation services they could purchase in a free market-
place. My testimony will expand upon those observations as they relate to routes
and entry.
At the outset, however, I want to make clear that these questions are insepar-
ably intertwined with the question of airline pricing rules to be discussed next
week. In other words, if the present fixed price system were liberalized, to allow
carriers to raise or lower their prices, the threat of new entry would be an
important factor in determining whether in fact those prices were lower rather
than higher. Conversely, if entry were liberalized (as we believe it should be),
but nothing were done about pricing, the traveling public would gain little in
the way of greater benefits : having mor§ competitors does not insure better
competition for the public, if regulators (or statutes) prevent those competitors
from competing. Thus, as we review the history of procompetitive policy in
California and Texas we should firmly have in mind the fact that pricing flexi-
bility has been combined with essentially open entry policy. The history of CAB
entry regulation is familiar, but quite different.
The existing statutory standard has not required the Board to operate the
way it has in fact operated. The Board must consider competition, among other
things, and it has done so — always with an eye to the existing industry. The
statutory standards should be revised to deal with this issue. Not only must the
Board be required to give greater weight to the competitive process, but this will
only prove meaningful if combined with measures that deprive the Board of
authority to turn down a route and entry proposal on protectionist grounds.
Stated another way, the problem has not been with the Board's authority, but
with its exercise of discretion. Any reform has got to look toward switching
discretion from the Board to the managements of air carriers and new entrants.
Nobody contemplates that all entry regulation would be eliminated. We and
the Administration recognize that it is important that those who fly do so in
safe planes, and that they be flown by qualified crews. However, these particular
factors are capable of being quite objective, so that entry can be tied to the
necessary Federal Aviation Administration certificates. Beyond that, entry into
common carrier fields must be tied to ability and willingness to meet common
carrier obligations. In other words, a common carrier would be obliged to have
published tariffs and schedules and to fly in accordance with them. Any sustained
pattern of failure to comply would provide a basis for a finding that the carrier
was in fact unfit.
We intend, whatever form our proposals ultimately take, to insure that air
service will continue to be a highly dependable means of travel. Liberalized entry
need not — and indeed is not likely to — lead to "fly by night" operators coming
into the business. In this connection, it is worth realizing that the whole "com-
mon carrier" legal concept arose at common law in what was very often an
"open entry" environment for such operations as stage coaching and innkeeping.
I. ADVERSE CONSEQUENCES OF ECONOMIC BEGULATION
In enacting the Civil Aviation Act, predecessor to today's Federal Aviation
Act, Congress in 1938 believe it was dealing with two problems. The first was
the need to bring stability to the government-subsidized system of air mail
carriers which had originated in the late twenties and had been regulated on a
piecemeal basis since that time. The second was to encourage the development
of the infant scheduled air transport industry in the chaotic economic conditions
that characterized the Depression. Today, mail revenue has become a very small
proportion of total airline revenues, and the major trunk carriers no longer
receive subsidy. The airline industry has matured and attained a level of tech-
nological sophistication and size unimaginable at the time economic regulation
was established. Today the short run economic prospects that confront the nation
are not bright, but conditions are nowhere near the "chaotic and destructive"
conditions that were perceived as threatening the very existence of commercial
aviation in 1938.
Although the conditions that led to the institution of the economic regulation
of airlines are now history, the regulatory system spawned by the Depression
still is very much with us. Consequently, the discussion of the current need for
regulation must center on an evaluation of what would happen to the aviation
industry if regulation were substantially reduced.
The economic evidence accumulated over the past several years convincingly
demonstrates that under regulation passengers have been compelled to pay
higher air fares and suffer unresponsive service, and scarce capital, energy
and other resources have been wasted by the airline industry through over-
investment in aircraft and excessive service competition.^
In exercising the regulatory authority over routes granted to it by Congress,
the CAB has restricted the number of carriers permitted to perform scheduled
air service, and also has restricted the ability of those few authorized carriers
to enter new markets. Today, the number of certificated trunklines is half as
many as the 19 which existed in 1938, though the number of revenue passenger
miles flown has increased 238 times since that year, and over 70 percent of the
revenue passenger miles flown by the trunk carriers in 1972 were flown in
markets in which only one or two carriers were certificated.^ Carriers who
already have route certificates can expect that additional entry into their
markets will be restricted. It is not surprising, then, that there has been a lack
of pricing competition in the airline industry, and several studies have demon-
strated that these noncompetitive prices are higher than they would be in the
absence of competition. Of course, the lack of price competition is aided and
abetted by the CAB's regulation of prices, and the anticompetitive incentives
built into the tariff mechanism. Regulatory protection from the threat of entry
by cari-iers who could do a better job at a lower price is surely a major factor
in the maintainance of high prices.
1 For a more extensive discussion of the following points and the evidence related to
them, see testimony of Assistant Attorney General Thomas E. Kauper before this sub-
committee, Feb. 6, 1975.
a The Domestic Route System, CAB 1974, appendix A, table 10.
681
Perverse as it may seem, the existence of route regulation actually increases
the incentive for airlines to engage in predatory pricing or other anticompeti-
tive measures. An airline knows that if it manages to drive a competitor out
of a market with regulated entry, it may obtain increased profits to cover earlier
losses.
This observation leads to an important point: contrary to charges made by
proponents of continued route regulation, it is not competition that leads to
waste in the airline industry. Rather, waste results from the attempts of business-
men to fulfill their normal desire to compete in a regulatory environment which
precludes meaningful entry and price competition. Consequently, airlines engage
in capacity competition, give away alcoholic beverages, and offer other "frills"
which probably would not be provided if free entry and price competition were
permitted. Thus, regulation has not led to high industry profits; it has led to
higher costs which dissipate the excess revenue generated by the industry's
noncompetitive prices.
Excess capacity which may exist in markets where there is more than one
carrier, result not from the existence of increased carrier entry and the resultant
competition, but from the fact that the regulatory structure prevents carriers
from competing in price and forces them to compete through the provision of
services which might not be as important to passengers as a price cut. Intra-
state carriers in California and Texas operating on a competitive, unregulated
environment, have offered higher load factors and lower prices than route-
regulated carriers.^
Supporters of the current regulatory scheme make the charge that without
regulation of entry, service would be undependable. Experience, however, does
not demonstrate that this would be the case. First, without regulation, the
profit motive would return to its normal governing role: Businessmen would
recognize that if they fail to provide dependable service, they soon lose their
customers. Second, in the CAB's own New England service investigation, the
Administrative Law Judge found that while individual air taxis which are
not regulated by the Board might enter and leave particular markets, service
continued to be provided by new operators, and the turnover on identity of
firms providing that service did not inconvenience the public, as opposed to the
carriers themselves.
It is not really all that surprising that private businesses not subject to
economic regulation of entry and exit can provide a dependable, widespread
service network. For instance, there is no Federal Hotel and Motel Administra-
tion, but the large chains do provide nationwide reservations so a traveler may
arrange for lodging in a distant city and expect to find the hotel in business
and his room awaiting him upon his arrival. But you can be assured, had a
Motel Administration been established in the thirties, any attempt to abolish
it today would be met by widely publicized fears of the collapse of the American
economy due to the inability of business travelers to make dependable hotel
and motel reservations.
Proponents of existing route regulation contend that without government regu-
lation of entry and exit, our present air route system would severely contract,
leaving numerous small communities without the air service they now enjoy under
regulation. Whether this is likely or not is a highly complex issue, but it is a
crucial one which must be resolved, because passengers on less heavily traveled
routes should neither suffer unnecessarily in order to reform the system, nor
receive hidden and quite expensive subsidies without an explicit and convincing
justification.
This country's domestic air route system is a complicated, extensive netvvork
served by trunk air carriers, local service air carriers, intrastate air carriers,
small carriers exempt from regulation under part 298 of the Board's regulation,'
supplemental carriers, and ^eve^•al other small specialist carriers regulated by the
Board. There are approximately 817 airports in the United States which provide
service by certificated airlines.^ Simple arithmetic indicates that there are thus
over a half million domestic city-pairs' in which airline travel is theoretically
'Testimony of William A. Jordan before this subcommittee, Feb. 14, 1975, p. 33. The
intrastate carriers also have experienced markedly lower costs. Id.
* 14 CFR pt. 298. , „ . ^ ,
5 Civil Aviation Research and Development Policy Study, Department of Transportation/
National Aeronautics and Space Administration, 1971, supporting papers, p. 4-34.
• A city-pair is a routing between two cities. It is more precise, though not as conven-
tional, to refer to individual routings as airport pairs, thus reflecting actual passenger
routings when more than one airport serves one city or one airport serves more than one
city. Because traffic information is not usually available for airport pairs, the term city-
pair is used in this testimony.
682
possible. But alternative transportation is available in many city-pairs, convenient
air service is not available in many of them, and many of them simply do not
have any passengers who wish to fly them. As a result, most air travel actually
takes place over a very small percentage of these theoretical city-pair routings.
As the Air Transport Association has stated earlier in these hearings, 30 percent
of domestic traffic is produced in the 70 largest city-pairs, 40 percent in the 840
next largest, and another 30 percent in the remaining city-pairs.
Apart from basic .«upply and demand considerations, there are primarily three
influences on the number of city-pairs which receive service : subsidy, cross-sub-
sidy, and the advantages of an integrated route system. In order to examine the
influence of regulation on the pattern of service, it is necessary to look at each
of these factors.
Section 406 of the Federal Aviation Act empowers the Board to grant subsidy
to air carriers, and 9 local service carriers and several Alaskan carriers presently
receive subsidy of approximately $70 million per year. This statutory provision
would allow the Board to insure the provision of air service to remote com-
munities even if there were no economic regulation of air carriers at all. There
is considerable agreement that the present method of awarding subsidy is back-
ward and inefficient,' but the history of the airline subsidy program shows that
the Congress can insure service to remote points if it wants to pay the price. The
present low level of subsidy compared to the total air transportation system in-
dicates that subsidy, though expensive, is not a staggering problem.
Some defenders of the status quo argue that if the government does not limit
entry and exit, it will be unable to require air carriers to serve the bad markets
with the good. Without government regulation, the argument goes, airlines would
all serve exclusively the largest markets, and small markets would go unserved.
In order to deal with these arguments, it is necessary to distinguish between the
next two quite different factors which lead carriers to serve "bad" markets with
the "good" ones : cross-subsidization and route system integration.
Each of these two factors allows an air carrier which serves more than a single
city-pair to serve as part of that system city-pair which would not be served in
isolation. System integration may allow this for a number of reasons : the small
city -pairs may be one segment in a larger city pair, as when service from A to B
is not economically viable, but service from A to B to C is viable. The smaller
market may simply be "entry mileage" on the way to one larger market from
another, or from a maintenance base. Or the incremental cost of adding a small
city-pair to a given aircraft routing may be low because there is otherwise un-
usable aircraft time which can be used in that city-pair. This latter factor is
important, because many city-pairs do not have enough traffic potential by them-
selves to use all the capacity generated by a modern aircraft used full time in
that city-pair.*
These efficiencies from more extensive operations are offset by the increased
costs of managing a complex and far-flung route network with diverse operational
characteristics, so that above a very small minimum size, air carriers do not
experience any substantial economies of scale." But where potential route system
economies exist, they can result in increased service and lower cost to consumers,
and the regulatory system should encourage operations which capitalize on them.
It seems clear, however, that route regulation is not necessary for the full ex-
ploitation of the advantages of route system integration. Without regulation,
carriers have an incentive to be efficient and expand their business operations, and
they can be expected to do so. Indeed, route certification decreases an air carrier's
ability to adapt and expand its route system in response to changing conditions,
and this inflexibility undoubtedly explains a substantial portion of the higher
costs and prices which are associated with regulated air carriers.
The absence of economies of scale in the airline industry also indicates that
addition of another city-pair to a carrier's route system does not always mean
increased efficiency or lower costs. Costs can actually be increased by route
Rjstems which are unduly complex, do not allow efficient gathering of traffic,
or require the operation of too many different aircraft types. Under regulation,
' See, Service to Small Commnnltles. CAB staff study. 1972 ; Eads : The Local Service
Airline Experiment, 1972. The Board itself requested introduction of legislation in the
93d Congress which would have authorized it to conduct a limited experiment in procuring
subsidized service on a competitive bidding contract basis.
8 See, Testimony of Willi5(m A. Jordan, supra.
* Testimony of Thomas Kauper, supra, pp. 15-17.
683
a carrier has incentives to keep inefficient routes on its system because if it
drops them, the route authority might be hard to get back from the government,
and another carrier might obtain a certificate for the route, making reentry even
more difficult or impossible. The increased costs of retention of uneconomic
routes because of regulation increases the overall level of air earner costs, which
may well decrease their ability to offer profitable service in smaller markets.
Thus the result of route regulation is to introduce costly rigidity which de-
creases, rather than increases, the air carriers' ability to exploit the economic
efficiencies of an integrated route system.
Government regulation of market exit is often advocated as a means of pre-
venting disruptive service terminations to small communities. There appears
to be no evidence that free exit, subject to notice provisions, would create any
serious inconvenience to the public. But more importantly, regulation of exit,
rather than increasing the amount of service to small markets, probably de-
creases it. When air carriers are not free to leave markets which prove to be
unprofitable, they will be more conservative in entering doubtful markets,
and fewer of those markets will actually receive service.
In contrast to actual efficiencies from route system integration, cross-subsidy
is an expensive, inequitable, and unreliable means of including service in lightly
traveled city-pairs. Regulation of entry to extract monopoly profits from pas-
sengers on some routes so that those profits can -theoretically be used to subsi-
dize service to passengers on other routes is a sub rosa tax which Congress prob-
ably would not explicitly allow.
Finally, leaving aside the extreme undesirability of cross-subsidization through
route regulation, there is considerable economic evidence that it simply does
not work in the regulated airline system.'" Increased revenues resulting from
restrictions on entry in highly traveled markets are utilized to support exces-
sive service competition rather than to subsidize otherwise unprofitable markets.
The inflated level of service and atteuaant costs thus make it more difficult
for carriers to serve lightly traveled markets at all.
In summary, there is little to Indicate that regulation brings air service to
small communities which otherwise would not have service. Cross-subsidization
is theoretically possible under route regulation, but it doesn't work and should
not be attempted. Route system efficiencies, which are a real source of other-
wise unavailable service, are more available without route regulation. Accord-
ingly, we question the need for continuation of the present close regulation of
individual routes.
While it is true that a liberalized entry policy may cause replacement of
carriers serving particular markets, such an occurrence need not be detrimental
to the public, or adversely affect the level of service to smaller communities
which is now rendered by certificated carriers. For instance, Executive Air-
lines entered the Boston-Bar Harbor market in the summer of 1968 and pro-
vided substitute service for Northeast Airlines during the 4-month summer
season. In 1970, Executive was ousted from the market by Bar Harbor Airways,
another commuter carrier, after Bar Harbor had begun to offer year-round
non-stop service between Boston and Bar Harbor. As a result. Bar Harbor re-
ceived a level of service to Boston for in excess of that which it had been receiv-
ing. While Executive may have left the market because it was operating at a
loss, the public was benefited by the substitution of a carrier willing to offer
year round service responsive to the needs of that community. Hence, the basic
reason for Executive's ouster was the superior service offered by Bar Harbor
Airways, and not "destructive competition" resulting from free entry. If a CAB
route proceeding were necessary, I suspect that Bar Harbor Airways would be
still trying (or have long since given up trying) to get on the route; and Bar
Harbor passengers would still be waiting for year-round non-stop service to
Boston.
Improved and more responsive service is not the only public benefit from
restoring the airline industry to the relatively "free entry" conditions it experi-
ences when there is no extensive economic regulation. For years, studies have
been noting that when entry into intrastate air transportation in California
and Texas was relatively free of regulatory barriers to entry, intrastate air
"> Statement of Gary L. Seevers, and James C. Miller III, Council of Economic Advisers,
Feb. 6, 1975 ; Statement of William Jordan, supra ; G. Douglas and J. Miller, Regulation
of Domestic Air Transport, pp. 97-103, 162, 174.
684
carriers offered dramatically lower prices than CAB-regulated carriers and
made profits doing so." Professor Jordan's testimony before this subcommittee
last week indicates that the great fare differences between regulated and un-
regulated carriers are not freak results accounted for by peculiar factors other
than economic regulation. If there were any reasons for these dramatic price
differences other than regulation, surely they would have been demonstrated
by now. The Board's response to this situation has been to allow its regulatees
to parallel the intrastate routes of the low-price intrastate carriers, charging low
prices to intrastate passengers and high prices to interstate passengers. The
difference in price is not based on any peculiar route characteristic, just
competition.
The airline industry, like any closed system, can use new blood. The evidence
is clear that when new competitors are able to enter the airline industry, they
bring with them new talent and new ideas in operations, marketing and service.
U. SUBSTANTIVE 8TATUTOBY PROBLEMS
The substantive provisions of the Federal Aviation Act which govern entry
are themselves the heart of the problem, for they provide the Board with vague
guidance as to the policies it should follow and allow restriction of competition.
Under the Act, the Board is empowered to issue route certificates to applicants
who are "fit, willing, and able" to i^erform the service they wish to provide, but
such a certificate may only be granted if "such transportation is required by the
public convenience and necessity ;" otherwise the application is to be denied.^
The Act also requires that the Board, in exercising its authority, must consider
"competition to the extent necessary to assure the sound development of an air
transportation system. . . ." ^' With directives this broad, it is not surprising
that CAB regulation of the air transportation system exhibits a confusing pattern
of "regulated competition" which has resulted in waste and high prices.
Through its power to issue certificates, and to subject them to "reasonable
terms, conditions, and limitations" as required by the public interest," the CAB
has wide discretion to determine the extent of competition in commercial avia-
tion. The Board, however, was not left entirely free to adapt the domestic route
structure to meet the changing conditions of the airline industry during its rapid
growth from the passage of the Act in 1938 to the present.
First, Congress embodied in the Act a concept of "security of route." In gen-
eral, the CAB may not revoke a certificate unless it finds an "intentional failure"
by a carrier to comply with the Act or a Board order, and only if the carrier
thereafter refuses to correct the failure after notice by the Board."^ Temporary
suspensions, as opposed to revocations, may be ordered upon a mere finding that
the "public convenience and necessity" so require.'* Any significant reduction in
an existing carrier's operating authority could only come about through the
permanent deletion of that carrier's authorization to serve a particular point,
with the consequence that airlines and the Board look upon route certificates as
important assets, giving holders the perpetual right to do business in a particular
market. Carriers, though, may sometimes agree to suspend unprofitable routes,
or two or more carriers may agree, if the Board approves, to reduce competition
through mutual suspensions of authorities.
Second, the 1938 Civil Aviation Act "grandfathered" the operating rights which
the then-existing 19 major carriers had under airmail contracts awarded in the
late twenties and the thirties." These mail routes, having their genesis in the
Hoover Administration, thus became the nucleus of the domestic route structure,
with, for example, TWA and United being the major transcontinental carriers,
and Eastern having the Eastern Seaboard routes.
n Testimony of William A. Jordan before this subcommittee, Feb. 14, 1975 ; Testimony of
Gary Seevers and James C. Miller III before this subcommittee, Feb. 6, 1975.
iM9 U.S.C. sec. 1371(d).
«49 U.S.C. sec. 1302(d).
"49 U.S.C. sec. 1371(e)(1).
15 49 U.S.C. sec. 1371(g). . ^ . .x. t> ^ ^
" Id. This power is rarely exercised without carrier acquiescence but the Board nas
been found empowered to suspend one carrier so as to grant service to another, though
the incumbent desires to perform the service. Western Airlines v CAB, 495 F.2d 145 (D.C.
Cir. 1974).
" Civil Aeronautics Act of 1938. sec. 401(e) (1), 525 Stat. 973.
685
Third, applications for new route authiority, or modifications to existing author-
ity, can be granted only after notice and hearing,^** and under the Ashbacker
doctrine,^* the Board must hold a full evidentiary hearing when there are mul-
tiple applications for the same authority. Thus, when a carrier seeks authority
in an important market, it is certain to face the prospect of long, complex proceed-
ings, with the possibility that the losing party will petition for juaicial review.
Lastly, once a carrier is granted a certificate, it is free to use whatever equip-
ment it wishes, or establish whatever schedules it pleases, as long as it operates
a minimum amount of service.'" As a result, carriers remain free to engage in
schedule competition, though protected against new entry by the need for a
potential entrant to get a certificate, and against rate competition by rate
regulation.
In administering the authority thus granted it, the Board has developed an
elaborate system of restrictions which prevent carriers from actually competing
on routes where both have certificate authority. Certificates granted by the Board
are of a "linear" nature in that they authorize service among city-pair markets
with a terminal or terminals, sometimes several intermediate points, and another
terminal or terminals on the other end. Airlines can operate among the various
points on the routes by various combinations of nonstop, multistop, and connecting
service. The Board, however, may condition these otherwise flexible route awards
with several types of restrictions. By means of a single plane restriction, the
Board may require that service between two points on a route not be by a single
plane, but only by connecting flights. Thus, an airline having such a restriction
may be put at a disadvantage because it must force passengers to change planes
at the intermediate city while its competitor's passengers may stay on the same
aircraft. The Board also may require carriers to make one or more intermediate
stops, preventing nonstop service, and it may require a carrier travelling to a
city to continue beyond that city to another destination. Such a "long-haul" re-
striction limits an airline's ability to provide schedule competition in high-
density markets by forcing aircraft added to serve just the major city-pair to
continue onward to the next destination.
In deciding whether to permit a carrier to enter a particular market, the CAB
uses criteria which limit the ability of carriers to enter and compete with each
other. The existence of restrictive standards means that procedural reform can
have only a limited ability to increase the amount of competitive entry in the air-
travel network. Procedural reform can insure that entrants are not discouraged
by the prospect of delay in handling their applications, insure that they will be
able to fully present their case, and enable them to meet claims raised by chail-
lengers. But even assuming good procedures, one can expect that the certification
process, as presently constituted, will result in an unjustifledly low amount of
competition in the industry.
The first step the Board .reaches in deciding whether the "public convenience
and necessity" requires new competitive service, or the removal of a certificate
restriction so as to permit more effective competition, is the decision of whether
there is "room" for an additional carrier in the market. This consideration focuses
on whether the current traffic or traffic in a forecast period would profitably sup-
port the additional service contemplated by the applicant. Particularly in a less-
expansive economic climate, the Board also may look at the effect of new entry
on existing carriers, that is, the amount of traffic which would be diverted from
the existing carrier to the new entrant. Almost always, the issue of whether there
is room for a new competitor becomes the key issue.
Once the decision is made to authorize entry, the next step is to select the car-
rier, if more than one carrier is proposing to serve the market. Such a decision is
diflScult, for many carriers are able to offer ireasonably similar services. The Board
may take into consideration the "service" benefits that may flow from a grant of
new authority to a carrier, that is, the extent to which the addition of the route
to the carrier's svstem will enable it to improve or increase service throughout its
system, or offer more connecting flights or through plane service to the newly
authorized market. However, carrier selection will often depend on the Board's
desire to strengthen a paTticular carrier, by giving a financially weak carrier a
profitable route, or its desire to minimize the amount of diversion from incumbent
«49 U.S.C. sec. 1371(c).
i» Ashbacker Rndio Coro. v FCC, 326 U.S. 327 (1946).
10 40 TT S O SAC 1S71 ( o\
U.S.C. sec. 1371(e)'.
carriers, if the new service would siphon off connecting traffic from an incumbent
carrier to other routes on the new entrant's system. Hence, the selection of the
carrier to receive new authority may consciously or unconsciously depend on
"political" factors involving the attitude of the Board toward a particular car-
rier and its management. As long as the Board has the discretion to choose among
competing applicants on the basis of rather subjective criteria, such influences
may remain regardless of the procedures involved.
The result of the Board's restrictive entry policies, coupled with the permanent
nature of domestic route authority, has been the creation of a static route struc-
ture. With the exception of the recent certification of Air New England as a local
service carrier, there has been no certification of a new domestic scheduled car-
rier since local service carriers were certificated following World War II. The
only trunk carriers serving the public are those which received grandfather rights
in 1938. What the Board seems to have done is to create and perpetuate a -tier"
system of carriers with fouir levels. First are the large trunks, smaller trunks, the
local serivce carriers, and on the bottom, the part 298 "commuter carriers."
The Board has resisted the entry of new groups into the aviation business, and
Congress has sometimes seen fit to .require the Board to certify new carriers. For
instance, in 1962, Congress required the certification of supplemental carriers
which engage in charter only service.'^ Similarly, throughout the tremendous ex-
pansion of air travel since 1938, and the disappearance through merger of several
smaller trunks. United, American, and Trans World remained the largest carriers,
with Delta only recently edging out Eastern, the other of the Big Four carriers
receiving grandfather rights in 1938.^^
Through Board-approved mergers, the number of trunk carriers has declined
from 19 to 10, and with the addition of the 9 local-service carriers, the total
number of significant carriers remains the same as it was in 1938. In 1972 the
original 10 trunks carried approximately 92 percent of all revenue passenger
miles, with the local service carriers having only about 8 percent of the traffic."
While the percentage of traffic carried by the Big Four has declined, concentra-
tion remains high. In 1938, these airlines carried 82.5 percent of all domestic
revenue passenger miles, and by 1972 this amount had dropped to only 60.5 per-
cent,^ at a time when the total number of passenger miles flown increased from
476 million to over 114 billion.
The expansion of route authority within this tiered system has been ad hoc :
while the Board has occasionally established formal priorities for hearing route
cases,'* it has never systematically examined the overall route system or followed
a comprehensive plan in authorizing new authority. As a recent CAB study put
it : "The only occasion upon which the Government has determined or influenced
the development of the route system on other than an incremental basis was
under the Hoover Administration mail contract program. . . ." ^
This situation is all the more unfortunate because change under the present
system is slow and costly. The typical route proceeding, which may involve
lengthy trial-type hearings, takes at least one to 2 years to process." The CAB
does not even permit a carrier to escape this restricted route network when it
engages in charters, for the Board has limited carriers engaging in off-route
charters, those not between city -pairs on the carrier's certificate, to a tiny per-
centage of the total revenue plane miles flown by the carrier in the calendar
year.'"
The present inquiry in route proceedings into whether entry onto a specific
route would be "economically viable" should be eliminated. Whatever the pro-
cedures or standards applied to this inquiry, it still amounts to a substitution of
government decisionmaking for market processes in a way which inevitably to
one degree or another brings unnecessary costs and inefficiencies which we can-
not afford. The Board's Bureau of Operating Rights has recently proposed ™ that
the Board require an advance forecast of profitability for all carriers in a market
before a route application will be set for priority handling which in practice is
2149 D.S.C. sees. 401(e) (3). 401(n) (1), 417.
22 The Domestic Route System. CAB 1974, appendix A, table 1.
23 Id., appendix A, table 1.
2* Id. 100.
2s For example, 14 CFR sec. 399.60.
2» Domestic Route System, supra.
2' Domestic Route System, supra.
28 14 CFR sec. 2C7.5
2» The Domestic Route System, CAB 1974.
687
a necessary prerequisite to, if not complete assurance that, the application wiU
be granted. This proposal represents a valiant attempt to rationalize a route
investigation procedure on the part of the Board which in recent years has
effectively eliminated new competitive route awards in an attempt to improve
profiitability.™
The BOR's proposals no doubt would be quite damaging to competition and
efficiency in the air transportation industry. But the BOR proposal only makes
explicit and perhaps intensifies the undesirability of the Board's characteristic
conduct under its substantive statutory standards.
The Board has very candidly admitted that under its procedural practices of
the past few years, the vast bulk of new route applications have not even been
set for hearing because of the Board's exclusive preoccupation with enhancing
the profitability of existing carriers.^' This refusal even to hear cases raises seri-
ous questions under statutory procedural requirements. But the problem is far
more serious than bad procedures. The Board's recent de facto moratorium on
new route awards represents merely intensification of its characteristic use of
a vague statutory mandate to extend unnecessary and costly protection to exist-
ing air carriers.
Whether service on a specific route is "required by the public convenience and
necessity" is a similarly unnecessary inquiry in view of the economic character-
istics of air transportation. Who needs to be protected from "unnecessary" serv-
ice? Not consumers, who if given a choice will simply not pay for service they
don't need. Not the Postal Service or the Treasury, for airmail and subsidized
service are very small portions of the modern air transportation system, and
route regulation for the entire system is not necessary for either of them to func-
tion efficiently. The answer is the existing certificated air carrier themselves, who
naturally regard any new competition as "unnecessary." Government determina-
tions of whether there is a need for service that a private air carrier proposes
to offer on an unsubsidized basis are archaic, unnecessary and expensive.
What changes are necessary to narrow route regulation to reasonable scope?
To begin with, procedural reform could improve, but not completely remedy, the
problem. Route proceedings are extremely slow, when they take place at all, and
the ability of innovators and competitors to present their case undoubtedly could
be improved by procedural reform. If the substantive statutory standards were
not narrowed along the lines indicated above, however, the improvements would
be marginal, and in our view, insuflSeient. The regulator would still retain a
broad and vague set of directives and standards, and would be able to make
factual judgments with quite anticompetitive and harmful results without re-
versal by the courts.
There is a wide range of possibilities for narrowing the fact-finding discretion
of the regulator. One of the most modest would be simply to add to the long list
of public interest considerations in section 102 of the Act specific language about
maintaining competition and efficiency in air transportation. The problem with
this approach is that the vague and inclusive section 102 I'eferences to "encourage-
ment and development," "promotion," and fostering of "sound economic condi-
tions in" air transportation would remain, and the Board would at best have
to balance past anticompetitive and inefficiency-producing interpretations of these
provisions against the newer, narrower standards, with considerable deference
still being accorded to its factual judgment.
It is not clear to us that this would represent even a marginal improvement
over the present legal standards, because even under the existing Act, as under
numerous other vague and inclusive regulatory statutes, the courts have required
agencies to make specific findings on, and pay specific attention to, competitive
consideration,^- along with other public interest considerations.
Another possibility would be to eliminate the rather vague statutory exhorta-
tions mentioned above and insert in their place a requirement to preserve com-
petition and promote efficiency. This would be an improvement, but it simply
asks the regulator to do what the Congress could do itself : examine the need for
economic regulation of air routes, and decide how extensively it is to be applied.
sold. 9, 150.
31 Domestic Route System, supra, pp. i-ii ; CAB annual report to Congress, 1973. p. 4.
32 For example, Gulf States Utility Co. v. Federal Power Commission, 411 U.S. 747
(1973) : Federal Maritime Commission v. Svenslva Amerika Linien. .S90 U.S. 238. 24.3-46
(1968) ; Denver & R.G.W.R. Co. v. United States, 387 U.S. 485, 492-93 (1967) ; Northern
Natural Gas Co. v. Federal Power Commission, 399 F.2d 953, 958-61 D.C. Cir. (1968).
still further marginal improvement could be achieved by changing the section
401 requirement that a route must be proved "required" by the public convenience
and necessity to a requirement that it simply be proved "consistent" with the
public convenience and necessity. This of course would be little improvement at
all if there were no narrowing of the factual judgments the Board is allowed to
make in finding anticompetitive regulation to be so "required" or "consistent."
And even with such a narrowing along the lines suggested above, the difference
would only be marginal, because in past cases, once the Board has passed the
question of detrimental impact on other carriers, it has not imposed a very heavy
burden on parties seeking to show that their service is "required." Instead, it
frequently has found that the provision of new competitive service in itself con-
stitutes such a need.*^
One last refinement to this phrase-by-phrase approach to improvement of the
route provisions of the Act would be to specifically eliminate the Board's ability
to limit entry in order to protect existing air carriers. This could take the form
of a provision that the Board may not consider economic effects on other air
carriers in acting on route applications, or a provision that route applications
could be denied only if the Board found that the result would be a decline in
the quantity or quality of service in the market. This kind of amendment, along
with other narrowing of the standards and substantial procedural reform, would
remove the biggest historical impediment to a competitive airline system, but
it still would leave the Board with a fairly broad range of factual judgments
to make, and accordingly would leave the possibility of characteristically pro-
tectionist decisions.
In our view, the solution should get back to basics, and insure that route
regulation does not exceed the level which has been justified in the public interest,
because even at its best, regulation is an intrinsically expensive, time-consuming,
and unproductive exercise. Thus the best approach to reform of the entry pro-
visions would be to allow carriers into the industry if they can demonstrate
that they would operate the service they undertake in a safe and reliable
manner. Protection of these essentially noneconomic interests would not seem
to require detailed entry or exit control on specific city-pair routes.
Prepared Statement of John Snow (Submitted by Mr. Kutzke)
Thank you for this opportunity to submit a statement for the record concern-
ing the regulation of route awards and entry. I hope my statement will be of
some assistance to your proceedings and I will be happy to answer any questions
that you or the members of your subcommittee may have about the statement at
a later date.
As expressed in Acting Secretary Barnum's statement to this subcommittee on
February G, 1975, the Department has been a strong advocate of improving the
economic performance of the air transportation industry through the increased
reliance on competitive market forces. The economic performance of the industry
must be improved if we are to restrain the rapidly escalating prices of air trans-
portation and preserve the use of air transportation for large numbers of
travelers. One vital aspect of this problem is entry and route awards.
The present policy of the Board is restrictive in terms of certificating new
trunk carriers. Under the Act of 1938, 16 domestic trunk carriers received operat-
ing certificates. No new certificates have been awarded since that time, and, in
fact, because of mergers, there are now only 10 trunk carriers. The Board has
allowed new carrier groups and classes of carriers, such as local service and sup-
plemental carriers. But these types of carriers do not approach the trunks in
terms of scope of operation or market penetration.
33 See, for example. Northeast Airlines, et al.. North Atlantic Route Case, 6 CAB 319,
325-326 (1945) ; TATA Traffic Conference Resolution, 6 CAB 639, 643-644 (1946) ; Florida
Case. 6 CAB 765. 773-774 (1946) ; Hawaiian Case, 7 CAB 83. 103-104 (1946) ; Milwaukee-
Chicago-New York Restriction Case, 11 CAB 310 330 (1950) ; TATA Agency Resolutions.
12 CAB 493, 508-509 (1951) ; Trans-Pacific Airlines, Ltd., Certificate Amendment, 12
CAB 900, 901 (1951) : Southern Service to the West Case, Reopened, 18 CAB 790. 799-800
(1954) : Reopened New York-Balboa Through-Service Proceeding, 20 CAB 106, 109
(1954) ; Denver Service Case, 22 CAB 1178. 1184. 1273 (1955) ; New York-Florida Case,
24 CAB 94, 99 (1956) ; Seaboard & Western Airlines. Mail Authorization, 29 CAB 49, 85
(1959). The Board's apparent departure from this attitude toward the values of competi-
tion in recent cases is currently being challenged in Continental Airlines, Inc. v. CAB,
D.C. Cir. 74-1651.
The Board is also very restrictive with respect to route awards. During the
past 5 years, the Civil Aeronautics Board has enforced a de facto route mora-
torium, pursuant to which it has virtually refused to set for hearing applications
for new route authority and has generally denied applications for new competi-
tive authority in cases already in progress.
The Federal Aviation Act grants the Board wide discretion in determining
entry and route awards. This discretion has been inappropriately exercised to
restrain entry and frustrate the operations of the market. Under the Act the
Board is required to set applications for new route authority for public hearing
and to dispose of all such applications "as speedily as possible" (Section 401 (c) ).
In spite of that mandate, few route applications have been set for hearing over
the last 5 years. For example, the Board declined to set for hearing an application
by North Central Airlines to provide first competitive service (with American
Airlines) in the Boston-Detroit market and refused as well to hear an applica-
tion by North Central to provide competitive service between Philidelphia and
Milwaukee even though the two carriers authorized in that market had virtually
eliminated nonstop service. The Board's rationale has been that the new service
offered limited public benefits which were outweighed by the harm which com-
petition would have on the entrenched carrier.
Under Board procedures applicants for operating authority are placed on the
horns of a serious dilemma. In spite of the fact that the Board is required by law
to hear all applications filed, the application often sits in the docket without any
action taken unless the applicant also files a petition for expedited hearing. By a
new regidation adopted in the fall of 1973, the Board now dismisses all applica-
tions which are the subject of such a petition for an expedited hearing upon
denial of that petition. And the Board most always denies such petitions. Thus, a
carrier has the grim choice of requesting expedited hearing, which will probably
be dismissed, or having no action taken at all. As a result, the number of new-
route applications being filed has slowed to a mere trickle.
During the route moratorium, those cases already in progress have advanced
slowly with final Board decision still pending in some cases originally instituted
in the sixties, such as the additional service to Omaha and Des Moines case and
the Reno-Portland/Seattle nonstop investigation. The Atlanta-Detroit/Cleveland
and Cincinnati investigation was before the Board over 5 years (February 1969 to
May 1974 ) before being decided, and its decision was based on an issue not in the
case when initially filed — the national fuel shortage. The delay of the proceedings
has cast a heavy burden upon the industry.
A few route cases have been decided during the moratorium period, but with the
general result that applications for competitive route authority have been denied.
In reaching these decisions the Board has placed little emphasis on competition
and on the needs of the public for additional service. Instead, it has placed major
emphasis on the financial impact which the services of new carriers would have
on the incumbent carriers. For example, the Board denied an application for
competitive service in the San Diego-Denver market on the ground that such an
award would cause revenue diversion from Western Air Lines. (That case is now
before the U.S. Court of Appeals.) Even where the Board does consider competi-
tion, it views it in the narrow perspective of service adfHjuacy in terms of capacity,
rather than the potential for lower prices. Potential applicants have learned that
it Is bad strategy to base their case on lower prices. Failure of the Board to con-
sider lower prices is a serious deficiency in the Board's decision making process.
The result of Board's entry policy is that the American consumer is not afforded
the range of price and service options that an efficient market would provide and
often must purchase more service than he wants or needs.
What we need in terms of entry is a 2-pronged approach. First we need to
weigh the entry standard more heavily in favor of competition and efficiency.
Second, we need a requirement that cases before the Board be decided promptly.
The Board must focus upon the needs of the public and the need for competition
and innovation, and place less emphasis on the impact upon the existing carrier.
Adoption of this approach would not necessarily lead to the addition of new
carriers on each domestic route nor even the addition of new carriers to the
majority of domestic routes. Rather the basic result of this new approach will
be the "introduction of potential competition to ensure that the domestic air
markets operate efficiently and that the consumer obtains the price and service
option of his choice. The threat of potential entry will police and discipline market
behavior and ensure competitive market results. Liberalized entry will place firms
690
on the edge of the market, able and ready to step into that market when the
consumer is dissatisfied with the existing service and price. This dissatisfaction
will attract entrants. But we think that the existing firms will act as an intelligent
businessman, improve their efiiciency and keep their prices low enough to keep
new firms out. This is the concept of threshold pricing. Prices are kept high enough
to make reasonable profits, and low enough to keep new competition out. The con-
sumer benefits. Occasionally, an outsider will be able to enter the market because
he will be an innovator and offer a new service or be more efficient. Because of
the costs associated with entry, however, he will be the exception to the rule, but
the fear of his presence will spur the existing carriers to even greater eflSciency
and to their own innovation. We are confident the result will be a more efficient
and innovative airline industry, providing the public with better service and more
price-service options.
Even though this hearing deals with entry, it is important to consider entry
in the context of price flexibility. As you will remember, Acting Secretary Barnum
testified in favor of the need for more pricing fiexibility before this subcommittee.
One criticism of pricing flexibility is that only the strong firms will take advan-
tage of it, and they will either drive the prices up or, in the alternative, drive the
prices down temporarily to destroy competition, and then increase the price when
the competition is gone. Liberalized entry and the threat of potential entry is the
regulator and the enforcer which assures that pricing flexibility will not be mis-
used. With liberalized entry, the strong firms will not be able to drive the price
up because of the threat of competition. With liberalized entry, the strong firms
will have little incentive to underprice their services to drive out old competitors,
because there is always the threat of new competition.
There is another aspect of this connection between pricing flexibility and entry
that must be mentioned. Many would ask why in an industry where there is
existing overcapacity, and where the predictions indicate that future growth will
be somewhat slower than in the past, do we want more entry. We have already
indicated that we do not believe that easing entry will necessarily increase the
number of carriers in the market. But the essential answer to this question is
that liberalized entry is the other side of the coin to increased pricing flexibility.
Because prices are rigid, competition has concentrated on service and over-
capacitv has been the result. Only through pricing flexibility will there be a
reductio!) in this overcapacity, and as indicated above, pricing flexibility without
liberalized entry would not achieve the full benefits of regulatory change.
In summary, the Board has pursued a restrictive entry and route award policy
which has denied the American consumer the full benefits of an efficient air
industry that offers him the range of services and prices that it should. We
intend to introduce legislation which will turn the focus of the Board away
from the protection of existing carriers to the interests of competition, innova-
tion, and the consumer.
Office of the Secretary of Transportation,
Washington, D.C., Apr. 25, 1975.
Hon. EnwARD M. Kennedy,
U.S. Sen life,
Washington, B.C.
Dear Senator Kennedy : In the course of our participation in the recent hear-
ings held by your subcommittee on economic regulation of aviation, a number of
questions were asked of the Department which required supplementary written
response. Our answers to your questions follow.
Question 1. What is the Department's response to the subcommittee's recent
staff report on minimum charter air fares?
Answer. Among the procedural suggestions which the staff report discusses
are: providing public hearings prior to major Department policy decisions;
allowing for public comment in the context of a rulemaking proceeding ; estab-
lishing an agency official to represent consumer views; requiring that all meetings
be held in public; making public transcripts of meetings; providing Federal
Register notices of all meetings and hearings ; appointing a Department official
to decide which decisions require consumer representation or public hearings;
institutionalizing methods for soliciting public and consumer views; establih-
ing mechanisms for monitoring compliance with agency orders designed to pro-
tect the public; and providing consumer-oriented, in-house antitrust expertise
to insure that agency action will further the policies behind antitrust laws.
The general objective of these procedural suggestions — to protect consumer
interests from the "vagaries of 'informal' decisionmaking" — are worthy, espe-
cially if one accepts the premise that those views are not already adequately
considered. The suggestions are innovative. Taken as a group, they represent a
departure from traditional policymaking approaches. We believe that some are
already effectively being accomplished, others would be difficult or infeasible to
administer, and still others have merit and are being discussed, in some form,
within the Department.
I think the record of this Department's performance confirms that we are
mindful of consumer interests. As public officials, we act in accordance with
what we believe to be the public interest. In determining public interest, we
recognize the importance of creating a strong national transportation system,
of providing an economic climate in which carriers can provide quality service
at reasonable profits, of healthy competition, and of consumer needs for safe,
reliable, energy-efficient and low-cost transportation. We do not believe that the
present system of transport regulations is adequately meeting these objectives
and, therefore, we have sought to bring about changes in regulatory policy. The
basic thrust of our approach has been to allow wider scope for the operation
of market forces in transportation.
Of necessity, in fulfilling our statutory charge, we must take into consideration
not only consumer interest but also other national policies which require a
healthy transportation system, energy conservation, travel safety, and environ-
mental quality, among other goals. Weighing these sometimes competing con-
siderations is a challenging process.
Reasonable men may differ in judging the degree of our success. But any im-
plication that consumer views are not among the most important of those
factors considered in making policy in the Department would not square with
the facts.
In general, we believe the administrative burdens of opening to public hear-
ings all Department policy decisions or of requiring that all meetings be public
would outweigh the benefits. Allowing public comment in the context of rule-
making proceedings, or having periodic policy conferences which are open to all
interested parties, on the other hand, may have more merit. At present, the
Department has an official specifically charged with representation of consumer
interests who is involved in many, although certainly not all, policy decisions.
Public comments are always welcomed and are considered. Department officials
speak to industry and consumer groups and meet with each to explain our
programs and to solicit comments. The interchange is productive.
To further ensure adequate representation of consumer views, the Depart-
ment is effecting some changes along lines of the subcommittee staff's sugges-
tions. With respect to determining the level of compensatory charter rates, for
example, the Department has developed proposed criteria which have been circu-
lated to other interested executive branch agencies, air carriers and consumer
groups. The Department invited interested consumer groups, carriers and other
government agencies to participate in an open meeting at the Department on
April 11 to discuss our proposed criteria. A member of your staff and consumer
representatives were present. To increase consideration of consumer views in our
decisionmaking process, we recently published a notice in the Federal Register
asking for comments on various specific areas of the present review of inter-
national aviation policy. The Department intends to hold a hearing on that
review when the work is further along and we welcome consumer, government
agency. Congressional and carrier comments throughout the review. These com-
ments will be placed in a public docket. We are also considering holding an
open meeting to discuss proposed aviation regulatory reform legislation.
We will continue to review our procedures for public participation and will
continue to make every effort to ensure that consumer views are fully considered
in all the Department's policy decisions.
Question 2. Does the Department have any studies on the extent to which
cross-subsidy exists in the current air system?
Answer. As part of our preparation for the Domestic Passenger Fare Investi-
gation (DPFI), the Department extensively studied air carrier operations in
many markets and examined carrier load factors, relevant carrier costs and
levels of operations. On the basis of that examination, the Department concluded
that carriers are continuously adjusting operations in individual markets so as
to achieve a "break-even" level (including profit), but some relatively few
city-pair markets probably do not cover fully allocated costs (including profits).
692
However in those markets, the carriers normally covered variable costs, thus
making a positive contribution to the carriers' overall operation.
Markets which make a positive contribution will undoubtedly be retained
by the carrier, regardless of the level of federal regulation. The existing CAB
accounting system and the costing procedure? developed in the DPFI do not
recognize that many markets cover the relevant carrier costs if revenue Is
properly assigned. The analysis which I have described was not embodied in a
formal report, study or memorandum.
A theoretical discussion of the cross-subsidy issue was offered as part of the
Department's direct case in phase 9 of the DPFI and a copy of our presentation
is included. This theoretical analysis was confirmed by our review of carrier
costs, load factors and market data.
Other studies of the cross-subsidy issue have been made. They include "Eco-
nomic Regulation of Domestic Air Transportation : Theory and Policy," by
George W. Douglas and James C. Miller III (see, e.g., pp. 53-54, 87-94) ; "The
Local Service Airline Experiment," by George Eads ; and the CAB staff study of
"Service to Small Communities." With the exception of United's testimony at
your hearings, we are not aware of any evidence on cross-subsidy offered by
the carriers, although carriers often say there is cross-subsidy. We have not
examined the raw data on which United's study is based, but would be pleased
to do so if we had access to the data, and make the results of our analysis
available to you.
Practical experience over the last 10 years suggests that there is little if any
real cross-subsidy in the domestic trunk system. Trunk carriers have been with-
drawing from markets which they do not consider economic. Most of these
markets are now served either by local service carriers or commuter air carriers.
In recent years, trunk carriers have not sought to eliminate service in many
markets, even in unprofitable years. This provides some valuable evidence that
they do not perceive these markets as uneconomic.
Question 3. If we move to more liberal entry and pricing, what routes will be
affected? How many are there'.' Where are they? Will people on those routes
get service?
Answer. Every route may be affected to some extent. Service should increase
on some routes and decrease on certain other routes. In some few cases, carriers
may suspend service, in which event local service or commuter carriers would
probably institute service. In a few cases, direct subsidies from the local com-
munities might be necessary to insure continued service. In some instances, alter-
nate forms of transportation may become relatively more attractive.
We expect that service will be rationalized on grounds of economic justification
and that carriers will not serve routes on which they cannot cover their vaxiable
costs. It is not possible to do a route-by-route analysis indicating which low-
density routes would be eliminated without specific carrier co.st and revenue data
for the routes in question.
Qursfion J/. Can we submit questions on cross subsidy which the subcommittee
could address to the ATA and carriers?
Answer. Our General Counsc I's office has already provided certain questions for
your staff. One reason for the difficulty in assessing the extent to which one route
supposedly sub.sidizos another route is that it depends upon which accounting
system is used. Also, accounting systems do not properly measure the economic
costs. Each trunk carri; r should be requested to identify both profitable and un-
profitable routes, the routes they < laim are cross subsidized, and the accounting
methods used to arrive at the conclusion.
Question 5. What comments do we have on problems of transition to liberalized
entry and pricing? How can establi hed carriers be protected or not hurt too
badly?
Answer. Transition will depend upon the extent of deregulation. Phased transi-
tion is being discussed. If the industry were to be totally deregulated (which the
Administration has not advocated), a transition period would certainly be
required.
The airline industry has shown considerable ability to adapt to changing con-
ditions and to meet competitive .service innovations. We expect that they will
prove similarly resilient and that, far from being injured, their overall economic
health will improve as the result of our proposals.
Question 6. Will airline safety be affected by increased competition?
Answer. Regardless of the degree of regulatory reform we propose, we do not
have any intention of permitting any deterioration in aviation safety. The De-
partment considers that supervision of aircraft safety standards should be en-
tirely independent of economic regulation. The FAA will continue to maintain
high standards. We have discus.sed the matter of airline safety within the Office
of the Secretary and with the FAA. Many changes in the Act which would im-
prove Board procedures and encourage the Board to foster more competition
would not require any changes in the existing FAA safety programs or under-
lying statutes. On the other hand, if complete deregulation of air carriers were
envi.-ioned, some statutory changes in the FAA safety authority would be re-
quired. As a practical matter, if a number of new carriers were authorized to
enter, the FAA workload would be increased in the short run as the carriers went
through necessary steps to secure the requisite safety authority from the FAA.
Also, the FAA would almost certainly have to increase its inspection activities
to ensure that each new carrier was meeting all applicable safety standards. In-
spection would be particularly important for carriers that do not appear to have
the requisite financial backing to mount .sound economic operations.
You are aware that there are a number of carriers which do not operate pur-
suant to CAB authority which are also required to meet the same safety standards
as CAB-regulated carriers. These include Pacific Southwest Airlines in California
and Southwest Airlines in Texas. The FAA resources necessary to meet the re-
quirements for increased safety supervision which would accompany any regula-
tory reform proposal will depend on the specific proposal. We do not anticipate
a large increase in FAA safety staff, absent complete deregulation. We will not
permit any diminution in strict enforcement of safety standards.
In addition, a number of questions were submitted by Senator Thurmond. Our
response to those questions follow.
Question 7. Are you aware of any reliable figures, from any source, which will
enable the subcommittee to get some idea on the extent to which price determines
the consumer's choice between airlines, trains, buses, or some other public
transportation?
Answer. For the most part, the studies which have been completed regarding the
effect of price (or other factors) and the choice of transportation mode have not
been conclusive or reliable. The primary reason for this is the lack of information
which describes how many people are traveling by all of the available transporta-
tion modes in individual city-pair markets. There have been several studies com-
pleted in particular markets which do provide some insight. These studies show
that the sensitivity of mode choice to price is very much dependent upon the pur-
pose of the trip, its distance and the socioeconomic status of the traveler. For
example, business travelers are far less sensitive to price than are individuals
traveling for recreation purposes. Similarly, higher income people exhibit less
concern about trip cost than do lower income travelers. Frequency of service is
also an important factor, especially for the business traveler. Additionally, the
comparative trip times, including both time spent on the line-liaul part of the
trip and the time needed to get to and from the terminals, affect an individual's
choice of travel mode. The sensitivity of modal choice to any of the.se factors is
further affected by the range of choice which the traveler has in choosing among
competing modes. The greater the competition, the more sensitive is the individ-
ual's decision with respect to price.
Quefition 8. (a) What percentage of tourist travel in the United States is by
means of passenger aircraft? (b) What percentage of tourist travel in California
is by means of passenger aircraft? (c) In Texas?
Answer. Statistics from the 1970 U.S. Census indicate that approximately 7
percent of personal trips for nonbusiness purposes of 100 miles or greater in length
are made by air. Of all such trips having at least one end in California, some 14
percent are made by air. This latter figure includes travel leaving or entering
California, subject to CAB-regulated rates, and travel within California subject
to the lower PUC rates. If it is assumed that trips entering or leaving California
have percentages of travelers using air transportation similar to those reported
by the U.S. Census for the nation as a whole, then the overall 14 percent figure
may suggest that one reason for the higher percentage of California air travel is
tlie lower PUC rates. The similar figure for Texas is 7.5 percent.
Question 9. What costs enter into the consumer's decision to elect air travel over
some other method of transportation? Compare the percentages among Los
Angeles-Oakland, Ln<- Anedes-San Jose (where somewhat lower fares are in
effect), and Boston-Washington or Montreal-Toronto.
694
Answer. 1970 statistics on intermetropolitan travel between the San Francisco
Bay Area and otlier cities show the following :
Percent trip 1 by-
Air Rail/bus
Auto
36.2 1.2
62.6
42.4 1.8
55. 7
> Total trips, business and nonbusiness.
Results from the Northeast Corridor Study on 1968 intercity travel show the
following distribution of nonbusiness person trips (exclusive of rail trips) :
Percent of nonbusiness person trips by '
Bus Highway
New York-Boston 23 6 70
New Yorl<-Washington, D.C 16 15 69
Boston-Washington, D.C 60 5 35
Philadelphia-Boston 43 6 51
> Excludes trips by rail. Therefore, each of these entries would somewhat lower if rail trips were included.
Additional Northeast Corridor Study on 1968 intercity travel shows the fol-
lowing distribution of total person trips for given city pairs:
Percent of total person trips by
Air
Bus
Highway
Rail
46
7
42
5
36
10
45
9
51
4
42
3
34
3
61
2
New York-Boston
New York-Washington.
Boston-Washington
Philadelphia-Boston...
The above statistics do not come from directly comparable surveys which may
account for the rather high air travel levels on the East coast as compared to
California. Further, it is imix»rtant to understand that there are major differ-
ences in the transportation environment between the Northeast and the San
Francisco-Southern California corridor. California is more auto oriented, with
far higher levels of automobile ownership per capita. Also, auto travel between
Boston and Washington is both much more expensive, with many toll roads and
bridges over the route, and slower, inasmuch as the traveler has to pass around
the New Yorli metropolitan area. These factors may explain the high percentage
of air travel in the Northeast despite its high cost relative to the California
corridor.
Question 10. To my way of thinking, the traveling consumer in this Country
would be better off if he had more choices. Present regulations permit airlines
to compete with each other in terms of quality — that is, they can offer better
food, more food, better liquor, prettier stewardesses, or more frequent flights
in more modern aircraft, etc., but that entry restrictions and rate setting virtu-
ally eliminate price competition. I would prefer to be able to fly from here jto
Columbia or Charleston for $10 or $15 less, doing without some of these frills.
As one who is supposed to speak for consumers, do you think this is an uncommon
preference ?
Answer. Not at all. We agree that many consumers would prefer, and would
benefit from, price competition as well as service competition. As you know,
several airlines have recently received approval for "no-frills" service from the
CAB, a concept which we support. In addition, we are preparing legislation to
end some of the current practices which may tend to prevent price competition.
The success of the "no-frills" fare experiment may provide some indication of
consumer preferences in support of our view.
Question 11. Do you think the consumer would be better off if the CAB were
empowered to regulate all asi^ects of commercial aviation — or do you think the
consumer would be better off if free competition were expanded, thus allowing
potentially cheaper and more efficient carriers to offer their services over a cer-
tain route?
Answer. AVe think that more reliance on the free enterprise system and more
comi)etition are preferable to expanding the powers of the CAB. Encouraging
the Board to regulate all asi^ects of commercial aviation would benefit neither
consumers nor the airlines themselves.
Question 12. How do you evaluate the effectiveness of the Office of Consumer
Advocacy within the Civil Aeronautics Board?
Answer. Its establishment was an encouraging sign. In addition, the Board
should be commended for a number of other recent actions, such as ending its
unofficial moratorium on route awards and expanding consumer options by
approving "no-frills" fares. Nevertheless, while .such steps are clearly desirable,
they do not get to the heart of the problem — too much regulation and too little
competition.
Question IS. Do you feel that the authorizing legislation now on the books
for the CAB fails to give it enough power to insure the traveling public of
adequate service at reasonable prices, that it forces the Board to exei-cise powers
which actually work to the detriment of those goals, or do you feel that current
law is just right, but could be administered better?
Answer. We believe that the CAB, and its authorizing legislation, served well
when an umbrella of federal protection was needed to promote the development
of a new industry. However, now that the airline industry is mature, we believe
that the authorizing legislation should be changed so as to provide less regula-
tion and more competition. We are preparing legislative proposals to do so.
We anpreciate the subcommittee's interest in these areas and its courtesy
to our witnesses and staff. If we may be of further assistance, please let us know.
Sincerely,
John W. Snow,
Acting Assistant Secretary for
Congressional and Intergovernmental Affairs.
Mr. SusMAN. The subcommittee will come to order.
Senator Kennedy will return in a moment, and perhaps INIr. Gaf?non,
you would commence your prepared testimony.
Our last witness represents the Airport Operators Council, an as-
sociation of all major American airports. Mr. Gajnion is the general
manager of the Louisyille and Jefferson Air Board in Louisville, Ky.,
and has had a wide range of experience in the aviation industry.
Perliaps you will begin by introducing your associates.
STATEMENT OF JAMES GAGNON, CHAIRMAN, AD HOC COMMITTEE
ON AIR SERVICE, AIRPORT OPERATORS COUNCIL INTERNA-
TIONAL, ACCOMPANIED BY KENNEDY HELM, COUNSEL; BARRY S.
CRAIG, DIRECTOR OF AVIATION, GREATER CINCINNATI AIR-
PORT: MARSHALL P. ARNOLD, DIRECTOR OF ECONOMIC PRO-
GRAMS, LOUISVILLE AND JEFFERSON COUNTY AIR BOARD
Mr. Gagxox. I Avould like to do that, Mr. Chairman. On my left is
Mr. Kennedy Helm who is counsel to the air board. On my right is
Mr. Barry Crai.i wlio is a member of my air .service committee of the
AOCI, and on his right is Mr. Marshall Arnold who is a member of
my staff in Louisville,
It is in the capacity as chairman of the ad hoc committee on air
service of the Airport Operators Council that I come here today. In
this capacity I offer the following testimony to the Subcommittee on
Administrative Practices and Procedures of the Senate Judiciary
Committee.
We appreciate the invitation to testify before this subcommittee.
It is most gratifying- to see Congress expressing such timely concern
for the current status of air transportation regulation in this country.
In October 1974, the AOCI membership, at its annual business meet-
ing, adopted a resolution that : (1) Requests and urges the Civil Aero-
nautics Board to rededicate its efforts in the spirit and intent of the
Federal Aviation Act of 1958, as amended, to further develop the
domestic air transportation system in the public interest; (2) resolves
that the Civil Aeronautics Board shoulcl immediately reinstate the
judicial and evidertiary processes contained in its rules of practice in
economic proceedings, involving the potential authorization of new,
altered and/or competitive air services; and, (3) directs the AOCI
ad hoc air service committee to prepare and implement a program in-
volving the e^^.tire domestic membership in an effort to bring to the
attention of Congress that the public convenience and necessity for
adequate air services can no longer be met by continuation of the
moratorium on air route proceedings.
This action was taken after the AOCI air service committee, based
upon careful study, reached several firm conclusions relative to the
public interest in air transportation matters.
First, the Civil Aeronautics Board has for the past 5 years main-
tained a moratorium on airline route strengthening and community
air service improvements.
The Board has concentrated almost entirely on regulatory and de-
velopmental responsibilities on improving the profitability and eco-
nomic strength of the scheduled airlines, setting aside virtually every
other public interest consideration.
Secondly, the moratorium is in clear conflict with the law and the
intent of Congress,
A concentration on carrier interests ignores every other considera-
tion mandated by Congress as being in the public interest, and in
accordance with the public convenience and necessity.
A moratorium also clearly contravenes the requirement under the
law that applications for new or amended air service certificates or
for improved public air service are required to be set down for public
hearing and to be decided as speedily as possible.
Lastly, the moratorium has had a major adverse impact on the
public interest.
It is our firm conviction that the moratorium has been a major con-
tributor to rising unit costs for the airlines, repeated fare increases,
reduced competition, reduced public service, ex parte decisions regard-
ing excess competition, and route master planning that usurps the
Board's statutory authority and responsibilities.
Further adverse consequences may be identified as follows: an un-
healthy dependei^ce by the airlines on the CAB, stifling carrier ini-
tiative, efficiency, and discipline; abandonment of route strengthening
697
as a means for economic benefit to carriers and cities alike ; an end to
carrier and Board effort to seek out and develop new market poten-
tials; and almost complete disregard of the needs of the cities of
America for air service improvements and related economic
strengthening.
The Board's concentration on and accommodation to the financial
health of the carriers has produced milestone profit results for the in-
dustry. It has done more than return the carriers to profitability, it
has returned them to an alltime record in profitability. And this re-
sult was achieved in the face of record high fuel prices, record high
wage levels and record high costs in virtually every other category in
an airline operation.
We do not propose the abolition of the CAB, the transfer of its
functions or the deregulation of the industi-y. From 1938 to 1970,
under the aegis of the Civil Aeronautics Board, this Nation has pro-
duced the finest civil air transportation system in the world.
We can only say, however, that had the policies of the last 5 yeara
prevailed during the first 33 years, we would scarcely have progressed
beyond the DC-3 era. In this circumstance we have and will present
some specific suggestions for returning the Board to its responsibilities
for enlightened regulation. The Board has, over the years, generally
been regarded as one of the best administrative agencies in our system
of government. We believe our objectives and our proposals are de-
signed to help ensure that it achieve its full potential.
The Board of Directors of AOCI, meeting in San Diego in October
of last year, reviewed the extensive work and analysis of its air serv-
ice committee and completely endorsed the committee's recommenda-
tion that AOCI seek congressional support for an immediate and
complete termination of the Civil Aeronautics Board's moratorium.
Pursuant to that action, the board of directors directed its air service
committee to prepare and implement a program to that end.
Among the air service committee's recommendations on which the
board of directors' action was premised were : That the CAB should
lift its moratorium, immediately and totally; that the CAB also
launch investigations looking toward the elimination of unnecessary
public service restrictions in airline certificates; the more effective use
of existing air carrier authority, some of which has lain dormant for
many years; and the possibility of transferring a carrier's unused or
poorly used operating authority to a carrier with more incentive and
aptitude for its more effective use.
CAB STAFF STUDY ON ROUTE ENTRY POLICY : THE DOMESTIC ROUTE SYSTEM
Work went forward by the air service committee toward further
definition, refinement, and implementation of these objectives. How-
ever, on January 3, 1975, the air service committee received a copy of
a study by the Bureau of Operating Eights of the Civil Aeronautics
Board which was released New Year's Eve, 1974. The study was
entitled "The Domestic Route System: Analysis and Policy Eec-
ommendations," a staff study by the Bureau of Operating Rights,
October 1974.
A superficial glance at the study suggested that the Bureau's staff
was recommending a termination of the moratorium and a full re-
698
sumption of the Board's route and service developmental respon-
sibilities. Such a proposal would have lent substantial impetus to the
recommendations of the air service committee, and eased significantly
its burden. Further examination of the study, however, gave strong
indication that the BOR staff might be striving for the exact op-
posite results, that is. a further solidifying of the moratorium.
That strong possibility made it urgently incumbent upon the air
service committee to determine as precisely as possible the full im-
pact that the Bureau's recommendations could have on the moratorium
and on the interests of the population clusters represented by AOCI.
Since the study, the first of its type released by the Board's staff, was
some 2 years or so in the process of development and was extremely
broad in its scope and implications, it required a substantial amount
of time for evaluation.
As a product of our assessment, one fact can be stated without any
equivocation. If the staff recommendations were to be implemented
by the CAB, the moratorium would effectively become permanent
Board policy.
It therefore became alarmingly clear to the subcommittee that the
Bureau of Operating Rights staff proposals would violate each of
the AOCI public service objectives enumerated; and this was the
imanimous conclusion of the air service committee meetin.<T in Phoenix
in Januarv after a romprehensive review of the Bureau's study and
the objectives of AOCI.
Further, and on the basis of this comprehensive review and evalu-
ation, specific statements of position and specific legislative recom-
mendations were unanimously adopted by the air service committee
and forwarded to the Board of Directors of AOCI with a recommen-
dation for its approval at its meeting scheduled for February 20, 1975.
In the discussion of the Bureau of Operating Rights staff study
that follows, the views expressed are those resulting from the unan-
imous conclusions reached by the air service co^^Tmittee in conse-
quence of its extensive evaluation of the study. The essence of this
discussion is containerl in the recoi''Tmendations whic^^. ns stated, have
been forwarded to the Board of Directors of AOCI for considera-
tion and approval.
The study conduc*"ed bv the Bureau of Operatin.^; Rights formalizes
as future policy of the CAB. the route moratorium which has been
in effect since 1970. Generally, the proposed rules create a circum-
stance which prevents the CAB from proceeding on a case-bv-case
basis by establishing certain economic obstacles, or standards, de-
signed ito block any requirement for re.frulatory action. In effect, the
standards proposed in the study preclude all other consi^lerations with
regard to the determination as to who should be oertificated to pro-
vide service in a market. They prevent certification in markets that
need the service with no incumbent authority or, more importantly,
in the markets where nonstop authority exists, but no service is
provided.
A prejudgment of such issues by the Bureau of Operating Rights
by proposing this technique stronglv suggests that the Board mem-
bers themselves should be precluded from assessing and deciding serv-
ice improvement proposals under the public interest guidelines set
down by Congress.
ATIACHMENT C
CAB PROCEDURE FOR ROUTE APPLICATIONS
At this point, INIr. Chairman, I would like to invite your attention
to this flow chart. We have taken the recommendations of the Bureau
of Operating Rights.
Senator Kennedy. Why don't you hold it up again.
[See flow chart as inserted here.]
Mr. Gagnon. AVe have taken the recommendations of the Bureau of
Operating Rights and attempted to structure them in a flow diagram
relative to the critevi:!. or standards as they are called, for service
application. Just a glance indicates how complicated this process can
be. We are deeply concerned that the criteria and so-called standards
depicted here are not only expensive and time-consuming, but they
are virtually unattainable.
One particular area through this chart indicates that by the time
you have done all of these things, if it were possible to do them, there
is one opportunity, a last opportunity for the Board to set aside the
whole process before you reach the hearing opportunity. This scarcely
conforms in any respect.
Senator Kennedy. How would you simplify that?
Mr. Gagnon. Simplify this, sir?
Senator Kennedy. Yes, sir.
Mr. Gagnon, We would leave the hearing process the way it is,
which takes it from this point to this point and around all of these
criteria, which are rather like a clearinghouse of ideas, and back over
to this point, which is the hearing process. That hearing process is
one that has been established over time and has been quite efficient
over time. All we are trying to do is get that hearing process to un-
stick itself and start moving.
Now this scarcely conforms in any respect to the intent of Con-
gress. It is the Board members themselves in whom the public trust
has been vested by the Congress, and by Presidential appointment
confirmed by the Senate. It is the individual members who bear the
burden and the privilege of decisional responsibility with respect to
the ultimate issues of public convenience and necessity and the need
for changes in operating authority.
The industry, all carriers, and the public are entitled to the Board
members' fair "consideration of air service improvement proposals and
to the full exercise of their responsibilities within the spirit and the
explicit criteria of the law under which they are granted the right
and the duty to function. The members can neither be prevented nor
protected from the exercise of this responsibility.
Senator Kennedy. Are you satisfied that the Board has the resources
to hold these hearings, for all qualified meritorious applicants?
Mv. Gagnon. Yes, I am. They have a policy of procedure by which
they have set in the past, distant past to be sure, priorities, but they
certainly have the mechanism for setting applications for hearings
and consolidating applications and hearings.
Senator Kennedy. How can you really regulate the nurnber of hear-
ings, the quality of the hearings? You have to give quite extensive
discretion, do you not, to the Board in these areas? Or do you think
that you can draw up sufficient guidelines to insure that legitimate
applicants get a reaction or a response by the Board in the form of a
hearing?
700
LEGISLATIVE PROPOSALS
Mr. Gagnon. We have suggested seven legislative initiatives, Sena-
tor, and we are suggesting that the law needs a little bit of fine tuning.
Some of the things we are suggesting as legislative initiatives, to be
sure, might be able to be taken into regulatory policy. But there is no
assurance that that regulatory policy will be consistent in its appli-
cation. We need some legislation and some regulatory authority for all
seasons. We need it (the CAB) to have a regulatory system that works
in good times as well as bad times. So we feel that enlightened regu-
lation can develop the commercial air transportation industry as the
primary mass tran'^^portation moans for intercity travel. It is obvious to
us tliat this capacity ^s present witliin tho existing regulatory frame-
work. The first step called for is to pla^e the operating authority in the
hands of the air carr'ers fit, willing and able to provide the service. We
need ppec^fic direction from Congress to the CAB to move forward.
The air service committee in January unanimously proposed to the
AOCI Board of Directors that AOCI support seven key legislative
amendments to the Federal Aviation Act of 1958, as amended. The
amendments are designed to emphnsize, in specific terms, the intent of
Congress with iTspect to the n^ed for continuin.^ df'velopment and im-
provement of the air route structure and the public air services of this
country, and to ensure that the language of the Federal Aviation Act
permits no misunderstanding or misinterpretation of Congressional
policy and intent in these matters. It is our belief that the basic data
contained in the Bureau's study supports our recommended legislative
initiatives completely.
Three of the key legislative recommendations are as follows :
First, amend or supplement the existing statutory provisions to
require prompt and expeditious hearing for any application for new
or improved air service in a market in which at least one of the two
cities principally affected, and at least one certificated air carrier, re-
quest such a priority hearing.
Two, amend or supplement the existing statutory provisions to pro-
vide that nonstop authority which is not exercised for 1 year will be
presumed to be abandoned. At any time thereafter, the authority to
provide such service should be granted to any carrier fit, willing, and
able to exercise the autliority, upon application of any party in interest.
And, to amend or supplement the existing statutory provisions to
require the award of new competitive authority wherever it can be
shown that the carriers' operations in the market will produce reason-
able results. This proposed amendment is predicted upon the demon-
strated fact that competition develops traffic, improves service, lowers
fares, and lowers unit costs by expanding service and promoting
efficiency, all for the public benefit.
In conclusion, it should be emphasized that the present economic
condition of the industry or the country should not influence the de-
sign of regulatory policies which must necessarily look forward to
a future period in which such circumstances will no longer prevail.
A positive regulatory program will prove effective for the industry
in good times as well as in bad times. Decisions made today will effect
the industry .for many years to come.
701
The regulatory environment should be one that permits, stimulates
and directs substantial growth in our air transport industry, the
growth that is so vital to the achievement and maintenance of maxi-
mum efficiency. It is from this achievement that so many fare, traffic,
service, and technological benefits have historically flowed. When these
occur, they provide substantial stimuli to the national economy
through expansion of employment in the airlines, the manufacturing
companies, airports and all other air transport related industries.
This has been summary testimony. We do have written testimony
on file with the subcommittee.
Thank you.
Senator Kennedy. We want to acknowledge in the record your full
testimony. Of course, it will be made a part of the record, and it is
really enormously comprehensive, very responsive to the interests of
this subcommittee. I think it entailed a great deal of work. We just
want you to know that it is going to be of great value to our subcom-
mittee, and I think to the Congress, generally.
Manv of these specific recommendations, in terms of amendments to
the Federal Aviation Act and, of course, legislative proposals, should
go through the Commerce Committee. We are going to bring those
to their attention and Ave are working closely with the Commerce
Committee and others, on the amendments to the Administrative Pro-
But this is an enormously constructive document, very thoughtful
and comprehensive. All of 'your organization and those that support
your organization ought to understand it. It is really a very construc-
tive piece of work.
Let me just touch on a few areas. As I understand it, you mentioned
that a more liberal entry policy could mean a more efficient kind of air
transportation system.
Mr. Gagnon. Yes.
FREE entry and AIRPORT MANAGEMENT
Senator Kennedy. Now, what is going to happen to all of your op-
erators Avhen you get fly-by-night operations coming into business,
trying to rent 'space in the various airports, trying to set up various
gates and all of the rest, operators that may be here today and gone
tomorrow.
What is this going to mean, in terms of the basic kind of manage-
ment problems that' your people are facing in running many of the
airports and facilities in the country? Are you not concerned about
We heard Professor Jordan indicate that there might be 100 to 200
new airlines in a deregulated industry. Is it not going to be a night-
mare for anv of vour i)eop1e to try and make a decision as to who is
legitimate, who is not? And space, how can you deal with that
problem. Are you not concerned? Are you not a lot better oft ]ust
dealing with these major trunklines that you have known and
worked with for some period of vears, and know exactly what to ex-
pect from? You know that thev are secure, that the CAB is not going
to let them get in too bad a shape. Does not this make your lite a lot
easier and less complex ?
702
Mr. Gagxon. Senator, let me first say that our position, with respect
to free entry, is one in which we say that regulated free entry is a
possibility. We do not advocate a permissive and chaotic approach to
entry. Your question also indicates to me that we already have, to some
degree, perhaps, what is in your mind, in many cities and on many
segments, shorter segments, we have larger airlines, both regional and
trunklines backing away from frequencies and conveniences in sched-
uling that would constitute real quality service. This is inviting other
levels of operators in, not nearly so sophisticated, not nearly so deeply
capitalized. These people operate within the published standards of
the FAA, which is essentially the watchdog of airworthiness. And
they come to us and say we would like to do these things. From my part,
from my own personal experience, we are eager to have these people
make the attempt.
We have heard today, for instance, that North Central, I believe,
started with a couple of Cessna's many, many years ago. I still per-
sonally believe that this is a viable approach, that our third-level
industry has started that way. We do have one now. It will be a recog-
nized and honored third level of carrier in the immediate future. There
are a lot of them. A lot of them go broke.
As yet, the CAB has not regulated this area of carrier. But speaking
as an airport operator, we do not see the proliferation of those who
really want to compete and can compete financially having a great
problem with getting the job done at airports.
'secondary" airports
Senator Kennedy. Let us assume, for example. World Airways were
to get certification to fly across the country, serving secondary rather
than primary airports. Do you think adequate facilities exist in most
of the major market areas to be able to provide services for the people,
in terms of transportation, and parking, and counter space, as well as
other airport space.
Mr. Gagnon. Senator, I heard that testimony and I have devoted,
I guess, most of my adult life to this industry. I have never heard of
a secondary airport. Now, he mav be using very loosely a term that he
is not too familiar with. Any airport that supports, on a scheduled
basis, regular transportation, commercial transportation, has to be a
certificated airport under the law. Now, he may be referring to smaller
airports, smaller airports, yes. I think that there are some good po-
tentials for smaller airports, excellent potentials for smaller airports.
I know that on our board of directors there is a particular situation
where there is a smaller airport operator who has some scheduled
service, but the scheduled service is at a time of day and at a fre-
quency that really is not very cost beneficial to that community.
CAB PROCEDURE FOR ROUTE APPLICATIONS
Senator Kennedy. You outlined some of the procedures requiring
the CAB to hold hearings and reach decisions when the applicant
requests priority of hearings. Could that not be abused?
Could the CXB not be inundated with various applicants, which
apply for priority of hearings. We heard the request for certification
to fly to the Moon, which was given as an example of possible abuses.
703
Mr. Gagnon. Well, sir, I can only just make some sort of conjectural
approach to that. We have discussed it to some degree.
I would think that the CAB has, perhaps, to expand its staff a bit
to prepare this material, and they may have to establish some regional
facilities in order that evidence can be gathered. This may be necessary.
There is a great backlog.
Senator Kennedy. 1 suppose it would be reasonable to think that if
you had an expeditious handling of any of the requests, that you could
have a summary dismissal of any of these requests with the reasons for
it. That would be the best way to handle it. If it is a spurious kind of
application, you can dismiss it quickly, easily, with a brief explanation,
and at least have the issue resolved, rather than having these inordinate
delays. I suppose that is what we are talking about.
Mr. Gagnon. This is a question that we would like to make further
input to. We have not discussed it on the subcommittee, but we feel that
under the quoted policy, I believe it is -399.60, that the Board does have
authority to set priorities and to establish standards for hearing appli-
cations.
That is fine on the one hand. We think that probably has to have
some change. We would like to suggest, officially suggest to the Board,
the methods of doine: that. We recosrnize their legal right to do these
things, to set priorities, to set standards. But this is a standard we feel
cannot occur, the standard set forth as a recommendation of policy in
the Bureau of Operating Rights analysis of the domestic route system
just cannot occur. It is a stone wall as far as we are concerned to appli-
cations.
FREE ENTRY AND SMALL-TOWN SERVICE
Senator Kennedy. You do not think that the policy which you have
talked about this afternoon is going to adversely affect the integrated
air transportation system in such a way that it could bring rather
serious hardships to the people that you represent ?
Mr. Gagnon. "What, sir ?
Senator Kennedy. That freer entry system.
Mr. Gagnon. No. sir. No indeed. This free entry, and what we call a
use-it-or-lose-it policy here, we believe, will adjust the system of vari-
ous carriers operating today to a very beneficial extent ; that there may
be some opportunities for new carriers to come into markets that
already are established for them. They will have, if they can keep the
pace tiiev will have, probably, a monopoly opportunity for a while.
They will have an opportunity to buiM a market. We do not see the
free* entry as a result of Board approval as causing the airports or
those kinds of facilities in the national airport system any problems
whatsoever.
description of aoci
Senator Kennedy. How many people do you represent in your or-
ganization? .
Mr. Gagnon. Mv individual organization, or in AOCI. Speakmg
as AOCI, we represent 186 cities, counties. States, and other regional
organizations, which, in turn, accounts for approximately 60 percent
of the U.S. population. Our airports, in 1974, also accounted for ap-
proximately 90 percent of the enplaned passengers in that year. So we
have some very substantial public interest base in these matters.
704
Senator Kennedy. Thank you very much for your very helpful
testimony.
Mr. Gagnon. Thank you.
Senator Kennedy. We would like to feel that we could stay in touch
with you as we move through the course of these hearings. I want to
thank you and your associates very much.
The subcommittee stands in recess until 9 o'clock, tomorrow morning.
[Whereupon, at -t p.m., the subconunittee adjourned, to reconvene
at 9 a.m. the next day.]
[The prepared statement of Mr. Gagnon follows:]
Summary of Prepared Statement of James Gagnon
My name is James Gagnon. I am general manager and chief executive oflBcer
of the Louisville and Jefferson County Air Board, Louisville, Kentucky. I am
chairman of the ad hoc committee on air service of the Airport Operators
Council International. It is in this latter capacity that I offer the following
testimony to the Subcommittee on Administrative Practice and Procedure of
the Senate Judiciary Committee. We appreciate the opportunity to testify before
this subcommittee. It is most gratifying to see Congress expressing such timely
concern for the current status of air transportation regulation in this country.
In October, 1974, the AOCI membership, at its annual business meeting,
adopted a resolution that :
(1) requests and urges the Civil Aeronautics Board to rededicate its
efforts in the spirit and intent of the Federal Aviation Act of 1958, as
amended, to further develop the domestic air transportation system in the
public interest ;
(2) resolves that the Civil Aeronautics Board should immediately re-
instate the judicial and evidentiary processes contained in its Rules of
Practice in Economic Proceedings, involving the potential authorization of
new, altered and/or competitive air services ; and
(3) directs the AOCI ad hoc air service committee to prepare and imple-
ment a program involving the entire domestic member^tiip in an effort to
bring to the attention of Congress that the public convenience and necessity
for adequate air services can no longer be met by continuation of the mora-
torium on air route proceedings.
This action was taken after the AOCI air service committee, based upon
careful study, reached several firm conclusions relative to the public interest in
air transportation matters.
THE CrVIL AERONArTICS BOARD HAS FOR THE PAST 5 YEARS MAINTAINED A
MORATORIUM ON AIRLINE ROUTE STRENGTHENING AND COMMUNITY AIR SERVICE
IMPROVEMENTS
The Board has concentrated amost its entire regulatory and developmental
responsibilities on improving the profitability and economic strength of the
scheduled airlines, setting aside virtually every other public interest
consideration.
THE MORATORIUM IS IN CLEAR CONFLICT WITH THE LAW AND THE
INTENT OF CONGRESS
A concentration on carrier interests ignores every other consideration man-
dated by Congress as being "in the public interest" and "in accordance with
the public convenience and necessity."
A moratorium also clearly contravenes the requirement under the law that
applications for new or amended air service certificates or for improved public
air service are required to be set dowTi for public hearing and to be decided
as speedily as possible.
THE MORATORIUM, HAS A MAJOR ADVERSE IMPACT ON THE PUBLIC INTEREST
It is our firm conviction that the moratorium has been a major contributor
to: 1) rising unit costs for the airlines; 2) repeated fare increases; 3) reduced
competition; 4) reduced public service; 5) ex parte decisions regarding excess
705
competition; and 6) route master planning that usurps the Board's statutory
authority and responsibilities. Further adverse consequences may be identified
as follows: a) an unhealthy dependence by the airlines on the CAB stifling car-
rier initiative, efficiency and discipline; b) abandonment of route strengthening
as a means for economic benefit to carriers and cities alike; c) an end to carrier
and Board effort to seek out and develop new market potentials; and d) almost
complete disregard of the needs of the cities of America for air service improve-
ments and related economic strengthening.
The Board's concentration on and accommodation to the financial health
of the carriers has produced milestone profit results for the industry. It has
done more than return the carriers to profitability, it has returned them to an
all-time record in profitability. And this result was achieved in the face of
record high fuel prices, record high wage levels and record high costs in virtually
every other category in an airline operation.
We do not propose the abolition of the CAB, the transfer of its functions or
the deregulation of the industry. From 1938 to 1970, under the aegis of the Civil
Aeronautics Board, this nation has produced the finest civil air transportation
system in the world. We can only say, however, that had the policies of the last
5 years prevailed during the first 33 years, we would scarcely have progressed
beyond the DC-3 era. In this circumstance we have and will present some spe-
cific suggestions for returning the Board to its responsibilities for enlightened
regulation. The Board has, over the years, generally been regarded as one of the
best administrative agencies in our system of government. We believe our objec-
tives and our proposals are designed to help insure that it achieve its full
potential.
The Board of Directors of AOCI, meeting in San Diego in October of last year,
reviewed the extensive work and analysis of its air service committee and com-
pletely endorsed the committee's recommendation that AOCI seek Congressional
support for an immediate and complete termination of the Civil Aeronautics
Board's moratorium. Pursuant to that action the Board of Directors directed its
air service committee to "prepare and implement a program" to that end.
Among the air service committee's recommendations on which the Board of
Directors' action was premised were :
That the CAB should lift its moratorium, immediately and totally ;
That the CAB also launch investigations looking toward :
the elimination of unnecessary public service restrictions in airline
certificates ;
the more effective use of existing air carrier authority, some of which
has lain dormant for many years ; and
the ix)ssibility of transferring a carrier's unused or poorly used operat-
ing authority to a carrier with more incentive and aptitude for its more
effective use.
Work went forward by the air service committee toward further definition,
refinement and implementation of these objectives. On January 3. 1975, however,
the air service committee received a copy of a study by the Bureau of Operating
Rights of the Civil Aeronautics Board which was released New Year's Eve, 1974.
The study was entitled : The Domestic Route System : Analysis and Policy Rec-
ommendations, a staff study by the Bureau of Operating Rights, October 1974.
A superficial glance at the study suggested that the Bureau's staff was recom-
mending a termination of the moratorium and a full resumption of the Board's
.route and service developmental responsibilities. Such a proposal would have
lent substantial impetus to the recommendations of the air service committee,
and eased significantly its burden. Further examination of the study, however,
gave strong indication that the BOR staff might be striving for the exact opposite
results, i.e., a further solidifying of the moratorium.
That strong pos.*^ibility made it urgently incumbent upon the air service com-
mittee to determine as precisely as possible the full impact that the Bureau's
re ommendations could have on the moratorium and on the interests of the
population clusters represented by AOCI. Since the study, the first of its type
released bv the Boards staff, was some two years or so in the process of develop-
ment and was extremely broad in its scope and implications, it required a sub-
stantial amount of time for evaluation.
As a proiluet of our assessment, one fact can be stated without any equivo-
cation: If the staff recommendations were to be implemented by the CAB, the
moratorium would effeetivelv become iiermanent Board policy. If therefore be-
came alarminglv clear to the committee that the BOR staff proposals would vio-
706
late each of the AOCI public service objectives enumerated ; and this was the
unanimous conclusion of the air service committee meeting in Phoenix in January
after a comprehensive review of the Bureau's study and the objectives of AOCI.
Further, and on the basis of this comprehensive review and evaluation, specific
statements of position and specific legislative recommendations were unanimously
adopted by the air service committee and forwarded to the Board of Directors
of AOCI with a recommendation for its approval at its meeting scheduled for
February 20, 1975.
In the discussion of the BOR staff study that follows, the views expressed are
those resulting from the unanimous conclusions reached by the air service com-
mittee in consequence of its extensive evaluation of the study. The essence of this
discussion is contained in the recommendations which, as stated, have been for-
warded to the Board of Directors of AOCI for consideration and approval.
AIR SERVICE COMMITTEE EVALUATION, BUREAU STUDY: "THE DOMESTIC ROUTE
SYSTEM : ANALYSIS AND POLICY RECOMMENDATIONS"
The study condu ted by the Bureau of Operating Rights formalizes, as future
policy of the CAB, the route moratorium which has been in effect since 1970.
Generally, the proposed rules create a circumstance which prevents the CAB from
proceeding on a case-by-case basis by establishing certain economic obstacles
(standards) designed to block any requirement for regulatory action. In effect,
the standards proposed in the study preclude all other considerations with regard
to the determination as to who should be certificated to provide service in a
market. They prevent certification in markets that need the service with no incum-
bent authoriy or, more importantly, in the markets where nonstop authority
exists, but no service is provided.
A preiudgment of such issues by the Bureau of Operating Rights by proposing
this technique strongly suggests that the Board members themselves should be
pre-luded from assessing and deciding service improvement proposals under the
public interest guidelines set down by Congress. This scarcely conforms in any
respect to the intent of Congres.s. It is the Board members themselves in whom the
public trust has been vested by the Congress, and by Presidential appointment
confirmed by the Senate. It is the individual members who bear the burden and
the privilege of decisional responsibility with respect to the ultimate issues of
public convenience and necessity and the need for changes in operating authority.
The industry (all carriers) and the public are entitled to the Board members'
fair consideration of air service improvement proposals and to the full exercise
of their responsibilities within the spirit and the explicit criteria of the law under
which they are granted the right and the duty to function. The members can
neither be prevented nor protected from the exercise of this responsibility.
Recommendations
Enlightened regulation can develop the commercial air transport industry as
the primary mass transportation means for intercity travel. It is obvious to us
that this capacity is present within the existing regulatory framework. The
first step called for is to place the operating authority in the hands of the air
carriers fit, willing and able to provide the service. We need specific direction
from Congress to the CAB to move forward.
The air service committee in January unanimously proposed to the AOCI board
of directors that OACI support seven key legislative amendments to the Federal
Aviation Act. The amendments are designed to emphasize, in specific terms, the
intent of Congress with respect to the need for continuing development and im-
provement of the air route structure and the public air services of this country,
and to insure that the language of the Federal Aviation Act permits no misunder-
standing or misinterpretation of Congres-sional policy and intent in these matters.
It is our belief that the basic data contained in the Bureau's study supports our
recommended legislative initiatives completely.
Three of the kev le-rislative recommendations are :
(1) Amend or supplement the existing statutory provisions to require
prompt and expeditious hearing for any application for new or improved air
service in a market in which at least one of the two cities principally affected,
and at least one certificated air carrier, request such a priority hearing ;
(2) Amend or supplement the existing statutory provisions to provide that
nonstop authoritv which is not exercised for one year will be iiresumed to be
abandoned. At any time thereafter, the authority to provide su?h service
707
should be granted to any carrier fit, willing, and able to exercise the author-
ity, upon application of any party in interest ;
(3) Amend or supplement the existing statutory provisions to require the
award of new competitive authority wherever it can be shown that the car-
riers' operations in the market will produce reasonable results. This proposed
amendment is predicated upon the demonstrated fact that competition devel-
ops traffic, improves service, lowers fares, and lowers unit costs by expand-
ing service and promoting efficiency, all for the public benefit.
In conclusion, it should be emphasized that the present economic condition of
the industry or the country should not influence the design of regulatory policies
which must nece.'^sarily look forward to a future period in which such circum-
stances will no longer prevail. A positive regulatory program will prove effective
for the industry in good times as well as in bad times. Decisions made today will
affect the industry for many years to come.
The regulatory environment should be one that permits, stimulates and di-
rects substantial growth in our air transport industry, the growth that is so
vital to the achievement and maintenance of maximum efficiency. It is from this
achievement that so many fare, traffic, service and technological benefits have
historically flowed. When these occur, they provide substantial stimuli to the
national economy through expansion of employment in the airlines, the manufac-
turing companies, airports and all other air transport related industries.
Prepared Statement of James Gagnon
My name is James Gagnon. I am general manager and chief executive officer
of the Louisville and Jefferson County Air Board, Louisville, Kentucky. I am
also chairman of the ad hoc committee on air service of the Airport Operators
Council International. It is in this latter capacity that I offer the following
testimony to the Subcomittee on Administrative Practice and Procedure of the
Senate Judiciary Committee.
The Airport Operators Council International is an organization of public
entities that have the responsibility and authority to accommodate air trans-
portation within their respective communities. The domestic membership numbers
187 cities, counties, states and regional public agencies serving metropolitan
areas which account for more than 60 iiercent of the total U.S. population. For
the year ended March 31, 1974, airports operated by the domestic membership
of AOCI accounted for about 90 percent of the total U.S. passenger enplanements
on the certiflcated air carriers. With this vast constituency, the AOCI is the
organization best suited to represent, at first hand, the public interest in air
transportation matters before the Congress and Civil Aeronautics Board.
In October, 1974, the AOCI membership, at its annual business meeting, adopted
a resolution that :
(1) requests and urges the Civil Aeronautics Board to rededicate its
efforts in the spirit and intent of the Federal Aviation Act of 1958, as
amended, to further develop the domestic air transportation system in the
public interest ;
(2) resolves that the Civil Aeronautics Board should immediately re-
instate the judicial and evidentiary processes contained in its Rules of
Practice in Economic Proceedings, involving the potential authorization of
new, altered and/or competitive air, services ; and
(3) directs the AOCI ad hoc air service committee to prepare and imple-
ment a program involving the entire domestic membership in an effort to
bring to the attention of Congress that the public convenience and necessity
for adequate air services can no longer be met by continuation of the
moratorium on air route proceedings.
This action was taken after the AOCI air service committee, based upon care-
ful study, reached several firm conclusions relative to the public interest in air
transportation matters. These conclusions were :
(1) Since 1970, the Civil Aeronautics Board has overtly engaged in a
moratorium on its regulatory activities, which moratorium has prevented
the authorization of new, altered and/or competitive domestic air service
patterns within the U.S. domestic air transportation system.
(2) The Civil Aeronautics Board's moratorium on regulatory activities
relative to domestic air carrier routes is in confiict with the law and legis-
lative mandate of the Congress of the United States.
708
(3) The Civil Aeronautics Board's moratorium, although it may or may
not be in the best economic interests of the U.S. certificated air carriers, is
in fact detrimental to the public interest as provided for by the Congress.
(4) The Civil Aeronautics Board's moratorium on regulatory activities
relative to domestic air carrier routes is contrary to established AOCI
objectives and policies as set forth in the organization's bylaws and policy
handbooli.
(5) There currently is and always has been a lack of public interest
representation before the Congress and at the Civil Aeronautics Board.
(6) There is a vital need for effective public interest representation
before the Congress and Civil Aeronautics Board in the adjudication of and
policy determinations in air transportation matters of broad national concern.
(7) The service requirements and interests of the smaller communities
of the Nation are in particular need of effective national representation.
(8) The Airport Operators Council International is best suited to rep-
resent the public interest in air transportation matters before the Congress
and Civil Aeronautics Board.
Attachment A to this testimony is the initial report of the AOCI air service
committee to the organization's board of directors, submitted October 6, 1974.
Attachment B is the supporting documentation for the conclusions and recommen-
dations contained in attachment A.
It is widely recognized thnt the Federal Aviation Act is a developmental statute ;
and it will remain so until Congress says otherwise. We strongly adhere to the
belief that a great deal of development remains to be done in this industry. Not
one of the Act's fundamental objectives has been rendered obsolete. One of its
principal aims is to make certain that an air transportation system is developed
that will properly accommodate the "present" and "future" needs of this nation.
This is a living, ongoing requirement. In the Congressional declaration of policy
in the Act, it is stated that the Civil Aeronautics Board, in carrying out its
responsibilities under the law, "shall consider" certain factors, among others,
"as being in the public interest, and in accordance with the public convenience
and necessity." The listing includes the Board's responsibility to "foster sound
economic conditions" in the airline industry. No one will deny that a healthy air
transportation industry is one of the Board's major considerations. But not to
the exclusion of several other major considerations declared to be "in the public
interest and in accordance with the public convenience and necessity."
The "encouragement and development of an air transportation system properly
adapted to the present and future needs of the . . . domestic commerce of the
United States" is a major responsibility ; the recognition and preservation of
"the inherent advantages" of air transportation is another ; the "promotion of
adequate . . . service by air carriers" is still another. Finally, in dealing with
the matter of air transportation services, the Congressional declaration of policy
underscores the most basic tenet of the American free enterprise system, the
Board's responsibility to provide for "competition to the extent necessary to
assure the sound development of an air transportation .system properly adapted
to the needs of the . . . domestic commerce of the United States." The intent
of Congress when it directs the Board, through the very law which created the
Board, to hold a hearing on a certificate application and to authorize the services
sought if they are required by the public convenience and necessity, is that the«e
concepts, principles and standards must be considered by the Board. When a public
hearing is held, the standards by which a proposed service will be adjudged are
known factors. How then can the Board escape the application of those standards
and deny the authority requested, by the simple expedient of refusing to hear?
Section 401(c) of the Federal Aviation Act (1958) expressly requires the
Civil Aeronautics Board to set down for public hearing any certificate applica-
tion filed with it and to "dispose of such application as speedily as possible."
Further, if it finds that the service for which a certificate is sought is "required
by the public convenience and necessity," it is incumbent upon the Board to
issue a certificate authorizing and requiring the performance of such service
by an air carrier ( Sections 401 ( k ) and 404 ( a ) ) .
It is not possible to weigh and evaluate the public convenience and necessity
by inaction or default. Inaction, default or moratorium can only constitute a
denial without due process of law — a law which very carefully details what must
be considered. It cannot reasonably be assumed that no proposal for public
service improvement or for route improvement could offer any real opportunity
709
for solid and substantial public or carrier benefit. It cannot properly be assumed
that none could survive intelligent examination and evaluation, through the
hearing process. For the Board to fail and refuse to provide this hearing op-
portunity does in effect constitute the repeal of an Act of Congress by the Civil
Aeronautics Board — a creature of Congress established to carry out the vpill of
Congress.
The elements of the statutory mandate which I have very briefly enumerated
can scarcely countenance a moratorium. On the contrary it is clear that a mora-
torium is repugnant to the intent of Congress. Yet, since 1970 the CAB has
admittedly been following a policy of concentrating its regulatory and develop-
mental responsibilities on improving the profitability and economic strength of
the scheduled airlines of the nation. It has avowed also, in effect, that any other
public interest considerations would be set aside until the carriers' economic
needs had been fully satisfied. That policy has been continued and repeatedly
emphasized to this date. For all practical purposes, the Board has for several
years now rejected any real consideration of the "public interest" in matters
pertaining to possible route or public service improvements, even though that
is the paramount purpose of the developmental statute under which the Board
operates.
Present Board policy is a complete abdication of this function and responsi-
bility. Not only has it stagnated the public interest process and its intended
b.^nefits, it appears to be destroying the initiatives and incentives that are so
fundamental to a developmental statute. The vacuum created by this policy is
literally obliterating vast opportunities for economic growth by carriers and
cities alike, and at the same time the need in this nation for air service growth
and for improved air services continues to grow at an accelerating pace.
The membership of the AOCI is aware that the matters over which the Civil
Aeronautics Board has purview are complex and we acknowledge the need
for careful deliberation into the effect of regulation or lack thereof in the air
transportation industry. We do not, on the other hand, acknowledge or accept
that the regulation of air transportation need be so sophisticated as to defy
understanding nor so esoteric as to be performed without public knowledge or
consultation.
It is our further view that the imposition of this moratorium has frozen, and
in many instances, degraded an imperfect air transportation system in the
United States. During the time that the public voice has been silenced at the
CAB through the moratorium on public hearing processes, the following con-
sequences, adverse to the public interest and in conflict with the intent of Con-
gress, have become manifest: (1) increasingly higher unit costs for the airlines;
(2) repeated fare increases; (3) reduced competition; (4) reduced public air
service; (5) ex parte decisions regarding excessive competition; and (6) the
concent of master air route system planning without the legal requirement for
evidentiary process : worse yet, the Board's Bureau of Operating Rights con-
tenioiates a predetermination of the shape and substance of the nation's air
service network by the staff through a propose 1 rulemaking proceeding that
would foreclose the Board members from the exercise of their quasi- judicial
responsibilities on a case-by-case basis.
It may be said that these consequences have further consequences in that
they have produced: (a) an unhealthy dependence by the airlines on the CAB
which has had the affect of stifling carrier initiatives, efficiency, and good man-
agement discipline: (b) the abandonment of route strengthening which has
historically been successful as a means for better economic health for the
carriers and the communities alike; (c) an indifferent effort by the carriers and
the CAB to seek out and develop new markets and new communities of interest ;
and (d) almost complete disregard of the needs of the cities of America for
air service improvements and strengthening.
The Board's continuing eagerness to concentrate on and accommodate to the
carriers' financial health has produced milestone results for the airline
industry.
I am advised that while this moratorium has been perpetuated, and in light
of the standards developed in the domestic passenger fare investigation, the
domestic trunkline industry earned a 12.4 percent rate of return on its invest-
ments in fiscal year 1973 (CAB 73-19(), dated October 12, 1973), and a 12.1 i)er-
cent return on investment in calendar year 1973, (CAB 74-188, dated August
23, 1974). This exceeds the 12 percent rate established by the CAB as "fair
710
and reasonable . . . (and) suflBcient to compensate the carriers for their cost
of capital, provide the equity owner with returns comparable to returns on
investments in enterprises having conipnrali'e risks, and enable the carrier to
maintain their credit and to attract capital." (CAB order 71-4-58). The earn-
ings for the domestic trunkline carriers have further improved dramatically in
1974 with operating profits up 73 percent to $761 million, and net income up
114 percent to $359 million for fiscal year ended September 1974, (Interim
financial report, September 1974). Even before tbe adjustments to the stand-
ards developed by the CAB, there are five domestic carriers earning the full
rate of return or substantially more than the full rate of return on investments.
The eight regional carriers' earning for the same period are at 14.3 percent and
climbing.
Thus we see that the CAB's concern for the airlines' profitability, to the
exclusion of the public need, has jjrovided the carriers with nrit just a return
to profitability, but a return to an all-time record in profitability, while the
public requirements for improved service go begging. It should be noted, too,
that these all-time profit records were achieved in the face of record high fuel
prices, record high wage levels and record high costs in virtually every other
category in an airline operation. Little wonder then, with such all-time high
profits bestowed by the benevolent hand of the CAB, that the airlines, individ-
ually and collectively, have been hesitant to protest th" Board's abandonment
of the processes of route strengthening and public service improvement. There
is a basic reluctance to disturb things in this "too good to believe" world.
With the Board's abdication of its public service responsibilities, the public
interest has gone unattended ; public Interest consideration has been virtually
shut out. That situation must be changed ! The public's essential right to repre-
sentation, participation and a just determination on the merits must be restored
at the earliest possible time.
The AOCI is represented by professional people operating facilities which
serve millions of the American public day in and day out. From their quasi-nublic,
quasi-governmental posture, they are directly involved in a number of air'trans-
portation matters every day in nearly every city of any size across the nation.
Accordingly, AOCI has a vital interest and responsibility in air transportation
matters of broad national concern.
Their is a deep-seated public interest In expanding and strengthening air
routes and services. In recognition of its own public responsibility in these mat-
ters, the AOCI is endeavoring to insure that there is provided for the communities
and the public that it represents a climate within which each city, actins: on its
own, will have the opportunity to obtain whatever quality and quantity of air
service that it can justify ; an atmosphere in which both the cities nnd the carriers
will have an opportunity to achieve substantial economic strengthening through
air route and air service improvements.
The Board of Directors of AOCI, meeting in San Diego in October of last year,
reviewed the extensive work and analysis of its all service committee and com-
pletely endorsed the committee's recommendation that AOCI seek Congre.-sional
support for an immediate and complete termination of the Civil Aeronautics
Board's moratorium. Pursuant to that action the board of directors directed its
air service committee to "prepare and implement a program" to that end.
Among the air service committee's recommendations on which the board of
directors action was premised were the following :
That the CAB shouM lift its moratorium, immediately and totally ;
That the CAB should resume the use of the numerous public interest pro-
cedures provided for it under the law, and .'^everal that it devised itself for
the purpose of expediting public service improvements and carrier route
strengthening ;
That the CAB also lauch investigations looking toward :
the elimination of unnecessary public service restrictions in airline
certificates;
the more effective use of existing air carrier authority, some of which
has lain dormant for many years ;
the possibility of transferring a carrier's nnused or noorly I'sed oper-
ating authority to a carrier with more incentive and aptitude for its more
effective use ; and
further route consolidation proceedings designed to streamline car-
riers' operating authority in the public interest.
711
Work went forward by the air service committee toward further definition,
refinement and implementation of these objec*^ives. On January 3, 1975, however,
the air service committee received a copy of a CAB staff study by the Bureau of
Operating Rights of the Civil Aeronautics Board which was released New Year's
Eve, 1974. The study was entitled, "The Domestic Route System: Analysis and
Policy Recommendations," a staff study by the Bureau of Operating Rights, Octo-
ber 1974.
A superficial glance at the study suggested that the Bureau's staff was recom-
mending a termination of the moratorium and a full resumption of the Board's
route and service developmental responsibilities. Such a proposal would have
lent substantial impetus to the recommendations of the air service committee,
and eased significantly its burden. Further examination of the study, however,
gave strong indication that the BOR staff might be striving for the exact opposite
result, i.e., a further solidifying of the moratorium.
That strong possibility made it urgently incumbent upon the air service com-
mittee to determine as precisely as possible the full impact that the Bureau's
recommendations could have on the moratorium and on the welfare of the popula-
tion clusters represented by AOCI. Since the study, the first of its type released
by the Board's staff, was some two years or so in the process of development and
was extremely broad in its scope and implications, it required a substantial
amount of time for evaluation.
As a product of our assessment, one fact can be stated without any equivoca-
tion: If the staff recommendations were to be implemented by the CAB, the
moratorium would effectively become permanent Board policy. It therefore be-
came alarmingly clear to the committee that the BOR staff proposals would
violate each of the AOCI public service objectives enumerated ; and this was the
unanimous conclusion of the air service committee meeting in Phoenix on Janu-
ary 23 and 24 of this year, after a comprehensive review of the Bureau's .study
and the objectives of AOCI.
Further, and on the basis of this comprehensive review and evaluation, specific
statements of position and specific legislative recommendations were unanimously
adopted by the air service committee and forwarded to the board of directors of
AOCI with a recommendation for its approval in its meeting scheduled for Febru-
^^In the discussion of the BOR staff study that follows, the views expressed are
those resulting from the unanimous conclusions reached by the air service com-
mittee in consequence of its extensive evaluation of the study. The essence of this
is contained in the recommendations which, as stated, have been forwarded to
the Board of Directors of AOCI for consideration and approval.
AIR SERVICE COMMITTEE EVALUATION, BUREAU STUDY: "THE DOMESTIC ROUTE SYSTEM :
ANALYSIS AN D POLICY RECOMMENDATIONS"
The study conducted by the Bureau of Operating Rights formalizes, as future
policy of the CAB, the route moratorium which has been in effect since 19 rO. Gen-
erally the proposed policy creates a circumstance which prevents the CAB from
proceeding on a case-by-case basis by establishing certain economic obstacles
(standards) designed to block any requirement for regulatory action. In essence,
the standards proposed in the study preclude all other considerations with regard
to the determination as to who should be certificated to provide service in a
market Thev prevent certification in markets that need the service with no
incumbent authority or, more importantly, in the markets where nonstop au-
fhnritv exists but no such Service is provided.
The^'opolal in this study create a regulatory obstacle for the development
of operating authority in the future that is vital to the public, as well as the air
carriers themselves. There were 4,112 markets studied which represented all
city-pairs generating more than 2,500 nondirectional O&D passengers in 1972.
Of thSe 2,928 have certificated nonstop service. However, only 590 received com-
petitive nonstop service. Another 639 received monopoly nonstop service ^^ich
leave 1,699 markets with no nonstop service where such service has been
certificated. It is this area that the bulk of the economic opportiinities for growth
and development exist. Most of these markets are not conducive to efficient
operations by the incumbent carrier but would represent valid economic op-
porSXs for other carriers. The incumbent carrier does not feel compelled
to develop this service nor is it pressured by the regulatory policies effective to-
day or by those proposed in the BOR study.
712
The preconceived objective of the study appears to emphasize the concept
that competition: (i) creates most of the problems in the air transportation
industry; (ii) should be avoided in the future; and (iii) should be eliminated
wherever possible. A conclusion of the study is: "The system has offered, in
general, an overall volume of service that is excessive in relation to demand in
competitive markets." It was further held that competition drives load factors
below the reasonable level, preventing carriers from achieving a 12 percent
return on investment; and, therefore, that the CAB should adopt a policy,
through the implementation of standards of avoiding this in the future in order
to improve the economic condition of the industry. The analysis also concludes
that the key to developing the improved economic condition of the industry is
to increase load factors; the key to increasing load factors is to eliminnte com-
petition as much as possible by discouraging competition in markets today, en-
couraging capacity restriction agreements; and denying consideration for the
authorization of competitive services in the future. The analysis states, "if any
real improvement in load factors is to be achieved by a lessening in degree of
competition, it is necessary to establish monopoly status for the markets in ques-
tion" (page 89, emphasis added) . This is a gross oversimplification of the problem
with regard to competition versus profits. No one denies that excessive competi-
tion or destructive competition hurts the industry and is not in the public inter-
est. However, nowhere in the study is there any support for the idea that two-
carrier competition creates these problems.
This study itself does not support the conclusions and recommendations made
with regard to the establishment of standards. There are many inconsistencies
and many conclusions drawn in the study itself that do not support the overall
policy and philosophy proposed for the future. Generally, the study took an in-
depth look at what took place in the industry between 1960 and 1972 to determine
whether it was good or bad for the traveling public, as well as the carriers
involved.
The study itself supports the fact that it was the rate policy prevalent in
1970-1972 that created most of the load factor problems. It is the rate level that
creates a capability of the carriers in the long-haul markets to provide service
at low-load factors. The study developed the fact that in two-carrier competitive
markets the load factors are generally the same as they are for all service on an
industrywide basis in all mileage categories. In other words, carriers generally
conform the level of service to the overall breakeven load factor requirement.
Since the analysis of load factors designed to support the conclusions of the
study was conducted during a period prior to the implementation of the fare
structure resulting from the domestic passenger fare investigation, the projection
to the future encompasses an air carrier operation substantially different in rate
structure characteristics than that which prevailed in the past. Since the im-
plementation of the fare structure is due to take place in June of this year, the
correction in load factor characteristics should respond to the changing rate
structure and not to the changing circumstances involving competitive service.
The study was conducted over a period of two years ending in February of
1974. It was dated October, 1974, and released on December 31, 1974. The content
provided insufficient information for complete analysis and evaluation. Standards
are proposed for the purpose of screening applications to determine whether or
not the CAB should conduct an investigation into the need for the service con-
tained in an application. However, the standards do not allow- a route applica-
tion to pass through this preliminary te-t of economics and load factor in order
to be processed on the case-by-case method envisioned by the Federal Aviation
Act, which is the only judicious method for adequate examination. Since these
are not the only features that the CAB should consider when determining the
need for service, they prevent recognition, by the Board itself, of the necessary
information relevant to other factors, such as, carrier strengthening, need for
service, economic viability under realistic conditions, traffic stimulation and
development, etc.
The overall rationale u«ed to develop the standards is keyed to the Domestic
Passenger Fare Investigation for the 55 percent load factor and the 12 percent
rate of return. However, these standards are misused in that they are considered
minimums when applied to the route poMcies proposed. Since the 12 percent rate
of return is considered a minimum, very few airline markets can generate exces-
sive earnings and, therefore, warrant regulatory action by the Board.
In essence, standards should not be developed to prevent the CAB from doing
its job. The Bureau of Operating Rights' recommendations establish standards
713
that would prevent any significant new air service improvement proposals from
coming before the Board members themselves for a decision on public convenience
and necessity issues. A prejudgment of such issues by the Bureau of Operating
Rights by proposing this technique strongly suggests that the Board members
themselves should be precluded from assessing and deciding service improvement
proposals under the public interest guidelines set down by Congress. This scarcely
conforms in auv respect to the intent of Congress. It is the Board members them-
selves in whom the public trust has been vested by the Congress, and by Presiden-
tial appointment confirmed by the Senate. It is the individual members who bear
the burden and the privilege of decisional responsibility with respect to the ulti-
mate issues of public convenience and necessity and the need for changes in
operating authority. The industry (all carriers) and the public are entitled to
the Board members' fair consideration of air service improvement proposals and
to the full exercise of their responsibilities within both the spirit and the explicit
criteria of the law under which they are granted the right and the duty to func-
tion. They can neither be prevented nor protected from the exercise of this
responsibility.
EVALUATION OF BUREAU'S PEOPOSED STANDARDS
The Bureau's study of the domestic route ssytem proposed that the Board go
forward with a route program (page iii). However, when the proposals are ana-
lyzed the route program does not "go forward" ; the moratorium is perpetuated.
The study has this to say about its objectives : "In these circumstances regulatory
joute and route-related policies should be directed to improving the eflBciency
and quality of the system through a careful expansion of route authority when
required by traflSc, and through route rationalization. The latter will require
direct action by the Board and creation of incentives for ca.rrier-initiated actions.
In so doing, civic interests should play an important role. This dual program of
route expansion and route rationalization is intended to make available new
services whenever sufficient demand has been established, to correct serious de-
ficiencies, and generally, to minimize the need for fare increases by encouraging
efl3cien?y" (page 9). It is stated that the route i)olicies recommended are derived
from the premise that the overall statutory scheme in respect to economic regula-
tion shall continue (page 147). It further suggests: "that the Board proceed, as it
has historically, on a case-by-case basis with a view to making gradual adjust-
ments in the linear route system. This means that each case will be decided on
its own merits in accordance with the statutory standards of public interest and
public convenience and necessity as determined by the Board" (page 147) .
However, when we look at the study proposals, the logic stated in the objectives
loses its coherency. The BOR's recommendations suggest "that the Board estab-
lish, by rule, evidentiary requirements that would be applicable to all route and
route-related applications, as well as benchmark criteria for determining which
route authority applications and adequacy petitions should be afforded priority
hearing" (page 148). Only after these applications have met such criteria will
a hearing be conducted (see attachment C). It is all too apparent that these
procedural requirements and economic standards, as graphically depicted in at-
tachment C, are excessively expensive, unduly time consuming, and virtually
unattainable.
This process places the economic standards between the carrier applicant or
civic party and the Board itself. The proces.sing of the application and the evalua-
tion of the economics in the application, as they apply to the standards, will take
place at the CAB staff level prior to the Board concerning itself with the need
for regulatory action. If these standards are not met, the Board will never deal
with the petition or application.
The study recommends that the CAB ; ". . . undertake, on the basis of pub-
lished standards, a continuing program of route expansion : to hear and adjudi-
cate route ca.ses to improve and perfect existing authority consistent with the
Board's DPFI economic goals and in accordance with developing traflSc require,'-
ments . . ." (page 149).
A brief examination of these standards demonstrates that practically no new
route opportunities would survive these economic tests. This, of course, then
points to a perpetuation of the route moratorium program.
FIRST OR ADDITIONAL COMPETITIVE AUTHORITY
The proposed standard is. "That the proposed operations will earn at least 12
percent rare or return in the first year of operations" (page 159) .
714
The operation of competitive service in the first year simply cannot generate
a 12 percent rate of return under reasonable circumstances. This clearly implies
service deficiencies in the market even after the proposed services are placed
into operation. Other\vi.se, as the gradual improvement of identity and market
penetration of the newly certificated carrier occurs, by the end of this first
year of operation, the actual rate of return would exceed the 12 percent level
to a substantial degree. This indicates that excess profits can be generated
in a competitive market in the early stages of development and that the second
year will produce excessive profits for both competitors in the market.
This standard cannot be met when using reasonable forecasting techniques.
Therefore, the only conclu.sion which can be drawn is that no such market will
survive this test, the route moratorium will be perpetuated, and the CAB itself
will not face a decision regarding the need for service in these markets.
There is no support in the study itself for this standard. The study estab-
lislied that in the past, many markets in the medium mileage ran^e category
were served with a carrier averaging approximately a 55 percent load factor.
This does not releate to the actual circumstances encountered by a carrier in
its first year of operation in a competitive market. Also, the standard assumes
that carriers should operate in succeeding years at load factors much higher
than 55 percent and, therefore, encourages excess profits at high load factors
as a norm for service quantity and quality. Therefore, the 55 percent coacli
load factor standard neces.sary to produce the 12 percent rate of return found
to be reasonable for airline operations in the domestic passenger fare investi-
gation is being used as a minimum standard. This is a substantial protective
device for the incumbent. It is also obvious that such a condition is not con-
ducive to growth and development of traffic for the future period to be covered
by these standards. This standard goes to the heart of the regulatory process
in the future since the development of competitive service is an underlying
objective of the Federal Aviation Act.
The basis for the study clearly demonstrates that competition has been the
key to the development of growth and eflSciency in the air transportation
industry in the past. This study was primarily confined to the development in
the industry from 1960 through 1972 (appendix B).
The major route case expansion during this period involved primarily non-
stop monopoly markets operated by trunk carriers, and looked toward the
authorization of first competitive service. Unlike the earlier programs, the
general program did not involve the issue of the need for increasing the num-
ber of competitive authorizations in markets already served by two or more
unrestricted carriers. Multiple competitive awards were made in only a few
markets and these generally resulted from considerations taken into account
in the decisional process in relation to the carrier selection, or in the entry
mileage situation. During this period the Board exercised control over the
general program by setting cases through orders of investigation, rather than
carrier applications. This program enabled the Board to direct a more systematic
basis for route authorization during this period (page 44) .
During the sixties, the Board frequently selected applicants primarily on
the basis of features other than purely economic results. Many reasons were
given for carrier selection, such as strengthening, subsidy need reduction, single-
plane service benefits, and other selection criteria developed in a case-by-case
approach. In commenting on the prosperity of the sixties, the study states :
"The combination of abundant operating authority and service, particularly
in competitive markets, has also influenced traflic development and the rate of
technological change. Trafl5c has been stimulated by the high level of service
made possible by the rate leve', and even hicrher level of service in competitive
markets has had a further stimulative impact" (pages 58 and 59). Competition
generally means premium service, including promotional fares, advertising, and
other major efforts made to stimulate the development of the markets directly
to the benefit of the traveling public which produces an overall lower average
fare. Of equal importance, the resulting development accrues directly to the
benefit of the regional carrier seeking improved operating authority and geared
to the pursuit of expansion and development as the key to achieving maximum
productivity and eflSriency.
"Although numerous factors have influenced the rate of technological change,
competitive rivalry has itself played an important and possibly primary role"
(rage 59). Technological change in addition to growth has been the key to the
development of the traflBc increases which took place in the sixties. "Because these
715
aircraft have been responsible for the long-term decline in unit costs and prices,
it is possible that the regulated competitive system has produced lower prices and
a higher quality of service than would have occurred under either monopoly or
unregulated conditions" (page 60). This statement is absolutely true. However,
the proposals of this study, if adopted, will point this industry in the opposite
direction.
NEED FOR ADDlTIONATv NONSTOP SERVICE
The standard proposed to indicate inadequate nonstop service is: "The load
factor in this market on all nonstop service must exceed 75 percent for the
previous twelve months" (page 165).
This load factor standard is extremely difficult to achieve in light of the fact
that, "most markets show pronounced variation by season, by day of week, and
often by time of day. During peak travel periods, load factors can be expected
to rise above the average. Only when aggregate load factors climb about a rea-
sonable level for protracted periods does scarcity of available seats become an
adequacy of service problem" (page 166). The establishment of a 75 percent load
factor as the standard is anything but reasonable. The study itself indicates that
there were only three markets that reached this load factor experience for the
12 months ended August 31, 1974. This period embraced the fuel crisis which led
to unusually high load factor conditions on many nonstop markets across the
country. In addition, the Ontario-San Francisco market was affected by the strike
of the intrastate carrier in this market creating an abnormal traffic condition for
the incumbent CAB carrier.
The findings in support for this load factor standard itself established the
unreasonableness of this condition and the fact that no carrier will be under any
strain to increase service in a nonstop market since the standard will never be
surpassed.
The establishment of this standard creates several significantly detrimental
public convenience and necessity features to air service today. The operation at
such an excessive load factor is not conducive to growth and development of
airline passenger traffic. Many extremely high density markets today, well
known for being unable to adequately accommodate many passengers due to
excessive load factor conditions, cannot meet this standard. Attachment D,
demonstrates the actual experience in five of these markets. The fact that first-
class service is averaged into the total produces a condition that prevents the
overall load factors and actual markets known to us at this time to be extreme
high load factor problems.
This, of course, overtly encourages the carriers to operate in markets with load
factors up to 75 percent. The standard tells the carrier that the CAB expects
operations at this level to be maintained in order to improve "efficiency" since
it considers a 75 percent load factor "reasonable". The domestic passenger fare
investigation established the fact that a 55 percent load factor standard is a
reasonable load factor when conducting regularly scheduled airline service. The
rate structure of the carriers has been designed to achieve a full rate of return of
12 percent at the 55 percent load factor. Therefore, the encouragement of the
carriers by the CAB to operate with load factors in excess of 55 percent up to 75
percent produces an excessive profit condition and at the same time stymies the
ability of the service in the market to develop traffic and service growth. When
looking at a typical market that produces a return of approximately 12 percent at
a 55 percent load factor for a Boeing 727 operation of 653 miles we begin to see the
absurd financial results that are encouraged by this standard (attachment E). A
GO percent load factor in this market will produce an 18 percent return on invest-
ment. A 65 percent load factor will produce a 23 percent return on investment.
Since the criteria for the domestic pas.senger fare investigation established the
fact that a 12 percent rate of return is reasonable, these returns on investment are
extremely excessive and directly conflict with public convenience and necessity
in a sound economic environment. They are conducive to a no-growth posture in
the industry and will therefore fail to produce an efficient unit cast characteristic
which will in turn, have an extremely inflationary impact. Since the unit cost
will ri.se rapidly under this condition, fares must go up. When fares go up, traffic
growth is adversely affected.
This cycle, therefore, will produce a negative growth characteristic in the
industry since the upward cost trend will exceed the overall increase in the con-
sumer price index because of the unreasonable load factor levels. The absurdity
of the economic results can be seen when looking at the results when load factors
716
achieve an average of 70 percent which generate a return on investment to the
carrier of 27.9 percent, more than twice that considered reasonable after the com-
pletion of the formal investigation to determine the financial needs of the air
transportation industry. Again, this still is not the load factor level that is con-
sidered reasonable by this 75 percent standard. The carriers are, therefore, en-
couraged to operate as close to the 75 percent level as possible and, therefore,
should be experiencing an overall load factor level in the markets of 70-75 per-
cent which allows their return on inveslmcnt to rise to between 28 and 32 percent.
The 75 percent load factor standard simply cannot be achieved on a regular
basis under reasonable circumstances. When looking at the load factor charac-
teristics of the airline operating in the highest routes in the world, PSA in the
California corridor markets, the 75 percent load-factor standard represents a
totally unreasonable level. PSA operating under ideal circumstances in a high
frequency market carrying thousands of passengers daily in each direction on
services designed to maximize traffic has never exceeded an average load factor
above 60 percent for a 12-month period since 1967. At that time PSA operated
Electra aircraft. Attachment F i'lu-trates PSA's experience in its top three
markets, two of which are noncompetitive.
The domestic passenger fare investigation did not support the establishment
of a 75 percent load-factor standard. PSA's operation in the world's largest mar-
ket under ideal circumstances cannot come close to supporting the establishment
of a 75 percent load-factor standard. The study itself dealing with the load factor
characteristics developed in the industry during the sixties, a period of substan-
tial trafiic growth, does not support a 75 percent load-factor standard. The 75
percent load-factor .standard is not conducive to efficient operations. This stand-
ard will constrict traffic growth and place the industry in a position of not
being able to accommodate inflationary cost increases and other economic
problems of the future; it will not allow the carriers to phase out obsolete
equipment on a rational basis ; but it will create lower utilization due to lack
of service expansion, accelerate increasing unit costs because of a no-growth
or negative growth condition in the market place, which in turn creates a sub-
stantial increase in fair requirement on a regular basis which in turn depresses
the demand for air service thereby p'acing a greater cost/price pres.sure on the in-
dustry. The ability of the air transportation system to evolve into the most effec-
tive and efficient intercity mass transportation system possible is defeated by a
standard not supported by the study nor any other analysis available.
FIRST NONSTOP SERVICE
The standard proposed by the Bureau to encourage the carriers to provide
first nonstop service is that, "True O&D plus flow traffic, for the previous 12
months was sufficient to maintain a 55 percent load-factor on two round trips
with the smallest aircraft type commonly used in city pairs of similar mileage
range" (page 165). "Nonstop service is the level at which air travel has Its
greatest advantage and it is incumbent upon the Board to assure the availability
of such service whenever economically possible" (page 167).
The standard, if adopted, will not create an environment conducive to providing
first nonstop service in a market. A careful review of this standard indicates that
compliance will encourage abnormally high load-factors, reluctance to provide
nonstop service, and only when conditions become unbearable ; one nonstop round
trip can be provided for almost an indefinite period before the Board would be
in a position to investigate the service deficiency under this rule.
This is an extremely important area for air service since it is the most desir-
able form of service and since so much authority exists to provide such service
today that is not being used. This study dealt with all airline markets in the
IT.S. producing more than 2,500 nondirectional O&D passengers in 1972 (approx-
imately 6.8 per day) (page 70). There were 4,112 markets analyzed, of which
2,928 have nonstop authority. This is one of the mo.st important statistics
developed in this study representing the most significant regulatory challenge
for the future. Of the airline markets 71 percent today have nonstop authority
that has been granted by the Civil Aeronautics Board.
When the quality of service provided in the«e markets is analyzed, several
dramatic features become apparent. First of all, the numbers used in the study
should be qualified as follows : "A more serious over.statement of the levels of
service provided stems from the classifications of markets on the basis of the
best level of service provided. A single nonstop flight, for example, was sufficient
717
to identify a market as nonstop, regardless of the possible existence of unmet
additional demand for nonstop service" (page 72) .
Therefore, keeping in mind that the service classifications are overstated by
some unknown degree, we find that for this group of 2,928 markets, only 590
received competitive nonstop service. This means that only 14 percent of the
markets served today received competitive nonstop service and only 20 percent
of the markets eligible to receive nonstop service received competitive nonstop
service. In addition, another 639 markets received noncompetitive nonstop serv-
ice. Therefore, another 22 percent of tho.se markets which have nonstop authority
receive nonstop service on a noncompetitive basis. So, we see that a total of
1,229 markets receive nonstop service of some form, which is only 42 percent of
those markets where nonstop authority exists and was found to be necessary
at one time or another in the past by the CAB. When we look at the 1,699 markets
where nonstop authority exists but is not provided, on either a noncompetitive
or competitive ba.sis, we can begin to focus on the extent of the need for the
development of a regulatory policy designed to create the incentive and the
initiative to ]ilace this authority in the hands of willing carriers.
The standard developed to encourage carriers to provide this service is truly
counterproductive. The standard is based upon the actual traffic flows in a
market prior to the receipt of such service. The initiation of nonstop service
in a mirkit will oliviously stimulate the development of traffic in the local
market, as well as improve the ability of the market to accommodate through
traffic. None of this traffic is considered when determining the need for non-
stop service. In addition, the market is judged on its traffic flows over a past
period to require nonstop service when it is large enough to support two non-
stop round trips at a 55 percent load factor. Therefore, a carrier can provide
service in a market almost indefinitely without being affected by this standard.
One-stop service in this market can be provided until the market is practically
shouting for the need for nonstop service. At that point, the incumbent carrier
which, as we have seen, already has the authority, can install one nonstop
round trip without ever facing the prospect of having this market meet the
need for additional nonstop service. The rule governing the determination in
a market requiring additional nonstop service would then come into play. In
other words, the one nonstop round trip must exceed 75 percent load factor over
the previous 12 months before additional service is required. Therefore, the
interplay of these two standards is not conducive to traffic development (even
accomniPdaMon of normal ijrowth). improved (juality of service, or incentive for
the carrier to operate and provide service in markets where authority already
exists. The study concedes that "managements will tend to .schedule within the
standards enunciated under the rule" (page 151). Truly, this condition formalizes
as a Board policy the moratorium that has been in existence since 1970 and is
in direct conflict with public convenience and necessity and the stated intent
of the Federal Aviation Act.
SINGLE-PLANE SERVICE (1- OR 2-STOP)
The minimum service quality required in an airline market is single-plane
service. Whi'e comecting servi e is possH)le, this is the lowest form of service
quality that can be provided. Effective single-plane service should be encouraged
and developed in order to cultivate the growth and development of the air trans-
portation industry in the low and medimn density market. Again, effective reg-
ulatory policy in this area can directly encourage further technological develop-
ment in the industry designed to make such service economically feasible. If
regulatory policy discourages the development of service in this area, there
is no incentive to pursue effective aircraft designed to meet this need.
The standard to determine the adequacy of single-plane service (one or two-
•stopl is tl'at "the market should generate not less than 40 true O&D passengers
per day and :
(a) no single-plane service available, or
(b) single-plane service used by less than i/o of the true O&D passengers
during the previous 12 months" (page 166).
It is stated that for a market to receive first single-plane service, it must ex-
ceed the 40 true O&D passengers per day criteria (page 166). "Few city pairs
whifh do not nlrendy rffeive sing'e-plane servir-e are likely to generate suffi-
cient O&D traffic to justify, of itself, new single-plane service" (page 76). It
718
appears that this standard was developed after the information regarding traflSc
volumes in such markets was known rather than following the rationale in
this study that supported the development of this standard. There are 1,474
markets today receiving connecting service only (page 74). Of these, on'y 34
markets exceed the 40-passenger criteria. This represents but two percent of
the total markets not now receiving single-plane service. However, if the stand-
ard develoi)ed at the conclusion of a formal CAB investigation (Washington-
Baltimore investigation in 1960) was applied to these markets, 906 markets
would warrant single-plane service. This, of course, would call for very active
regulatory pursuit to determine the ways and means of implementing the needs
for the minimum quality of air service in these markets. This also dramatically
demonstrates that the regulatory practices of the CAB, especially since 1970, are
not conducive to implementing such service improvement since no demonstrated
concern for service quality in this category of market has been made by the
CAB.
The development of the 40-passenger standard is extremely arbitrary and not
relevant to material developed in this study itself. In 1960, the CAB determined
that effective single-plane service was the rule in markets exchanging approxi-
mately 10 passengers per day and located less than 750 miles apart. It is im-
portant to note at this point that these were low density markets within a
750-mile range and not markets served by the largest airplanes in the com-
mercial airline fleet over long distances. However, in establishing the 40-passenger
standard, the CAB dropped the mileage criteria established as a result of the
formal CAB investigatiim with no supporting rationale. In addition, the 10-
passenger standard was adjusted to 19 with the reasoning that the average
aircraft size providing service today in all markets has almost doubled versus
the average that prevailed in 1960 (123.8 versus 65.4). This rationale ignores
the fact that the smaller aircraft type is the appropriate aircraft type to deter-
mine the feasibility of providing service in the medium and low density markets.
A major portion of service responsibility in this type of market should rest
in the h;inds of the regional carriers. In 1960, the average aircraft capacitv for
the trunkline carrier was 71 seats. In 1972, the average aircraft capacity of
the local service carrier was 72 seats (page 19). Therefore, we see that there
has been very little change in the overall capacity of the aircraft designed to
meet the needs of the air service in the medium and low density markets. We
see merely that the overall capacity of the trunk carriers has grown sub-
stantially due to the service inauiruration of very large equipment designed
to meet the needs of the long-haul high-density markets. This development should
not adversely affect the air service quality in the low and medium density markets
and most certainly should not be used in the rationale to support the standard
to meet such service needs.
The standaid is then further adjusted by the fact that the number of online
stops per passenger trip decreased from 2.57 to 1 62 and has remained stable
around the latter figure for the pa^t three years. Therefore, to adjust for this
difference in service quality, the 19-passenger level was divided by .63 (the
ratio of 1.62 to 2.57) to provide a revised minimum of 30 passengers. This is
another arbitrary adjustment with no support in the study. Generally, circum-
stances governing the ability to provide single-plane service in markets of this
size depend upon the equipment, traffic in the local markets, flow characteristics
of other traffic in the market and the mileage.
The traffic flow proportions in these markets vary dramatically ^^■ith mileage.
"For city pairs at distances less than 100 miles, there is only one origin-destina-
tion passenger for every 10 passengers transported" (page 65). In markets
ranging from 300 to 500 miles there are 4 origin-destination passengers for every
10 passengers transported. In markets up to 800 miles, the rationale becomes
5 local passengers for every 10 passengers transported. This trend continues until
we see that in markets over 2,000 ini^es. there are 9 local O&D passengers for
every 10 passengers transported. At this point, it is apparent that there is no
analytical justification for removing the initial 7.50-mile limitation developed
by the CAB in 1960. A standard varying with mileage would have been far
more relevant to the material contained in the study (page 66). Since this
type of information was not known relative to the transportation of passengers
in 1960, there is no support for the rationale for the adjustment made moving
the standard from 19 passengers up to 30 passengers.
The study then proceeds to develop the jump from 30 to 40 passengers as
follows : "Because not all O&D passengers are likely to prefer single-plane service
719
to connecting service, the minimum level of O&D passengers may be increased
to, perhaps, 40" (page 168). This again, is extremely arbitrary and is based
on no evidence developed in the analysis.
The standard for evaluating the effectiveness of single-plane service once a
market has exceeded the 40 true O&D passengers is "single-plane service used
by less than half of the true O&D passengers during the previous 12 months."
No information in the study was produced developing this type of information.
Therefore, we are limited in our comments with regard to the reasonableness
of such a standard. Again, in our judgment, it appears that such a standard
should vary by mileage since it is extremely inconvenient for short-haul or
medium-haul passengers to be forced to use connecting service because of the
inadequacies of single-plane services.
In conclusion we believe that the study states many things which sound good,
such as : ''The authority of any incumbent carrier whose service is con.'«idered
to be deficient — whether or not legally 'adequate' in the statutory sense — would
be considered for outright de'etion or deletion in conjunction with the issuance
of replacement authority to another carrier" (page 153). Surely the development
of service and economic opportunities in the future should be encouraged by
the regulatory policies of the CAB. However, the proposal here goes in the other
direction. It is worth a moment of conjecture to consider the catastrophic results
to the industry had the proposed policies of the BOR been in effect since 1960.
We believe that the establishment of a regulatory environment that is con-
ducive to growth and development of the industry is essential. Further, that an
effective and responsive regulatory program will not be detrimental to any air
carrier, either individually or collectively. Future emphasis should be given to
placing the operating authority in the hands of the carriers fit, willing and able
to provide service under a condition whereby the carrier can generate reasonable
results where identifiable economic opportunities exist. Most of the major mar-
kets in the rountry have carriers which have the authority but have never exer-
cised it. This is the major impediment to the development of the industry in the
future, and the CAB should take steps to deal with this deficiency.
RECOMMENDATIONS
Enlightened regulation can develop the commercial air transport industry as
tl e primary mass transportation means for intercity travel. It is obvious to us
that this capacity is present within the existing regulatory framework. The first
step called for is to place the operating authority in the hands of the air carriers
fit, willing and able to provide the service. "We need specific direction from Con-
gress to the CAB to move forward.
The air service committee in January unanimously proposed to the AOCI board
of directors that AOCI support seven key legislative amendments to the Federal
Aviation Act. The amendments are designed to emphasize, in specific terms, the
intent of Congress with respect to the need for continuing development and
improvement of the air route structure and the public air services of this country,
and to insure that the language of the Federal Aviation Act i)ermits no misunder-
standing or misinterpretation of Congressional policy and intent in these matters.
It is our belief that the basic data contained in the Bureau's study supports our
recommended legislative initiatives completely.
The seven legislative recommendations are :
1. Amend or supplement the existing statutory provisions to require prompt
and expeditious hearing for any application for new or improved air service in a
market in which at least one of the two cities principally affected, and at least
one certified air carrier, request such a priority hearing. In the absence of objec-
tion, the authority may be granted without hearing.
This recommendation is far more compatible with the statements made in the
Bureau of Operating Rights' study than the economic standards proposed in that
study. The study recommends, ". . . to undertake, on the basis of published stand-
ards, a continuing program of route expansion: to hear and adjudicate route
cases to improve and perfect existing authority consistent with the Board's DPFI
economic goals and in accordance with developing traffic requirements;" (page
149).
This legislative reminder will go a long way in establishing effective regula-
tory incentives for the development of a complete air transportation system. The
air' service committee is in complete agreement with the following statements
made in the study : "In these circumstances regulatory route and route-related
policies should be directed to improving the efficiency and quality of the system
720
through a careful expansion of route authority when required by traffic, and
through route rationalization. The latter will require direct action by the Board
and creation of incentives for carrier-initiated actions. In so doing, civic interests
should play an important role. This dual program of route expansion and route
rationalization is intended to make available new service whenever a sufficient
demand has been established, to correct service deficiencies, and generally, to
minimize the need for fare increases by encouraging efficiency" (page 9). This
initial legislative proposal, ". . . requires that the Board proceed, as it has his-
torically, on a case-by-case basis with a view to making gradual adjustments in
the linear route system. This means that each case will be decided on its own
merits in accordance with the statutory standards of public interest and public
convenience and necessity as determined by the Board" (page 147) .
This proposal, of course, eliminates the economic obstacles created by the
establishment of arbitrary -standards that sliould be achieved prior to a route
hearing being pet down by the CAB. The fact that the city has expressed a need
for service and that a carrier is willing to pro.secute an application for such
service .should be sufficient indication to the Civil Aeronautics Board that an
investigation should be conducted. The investigation will produce the economic
data that is specifically relevant to the market in question in order for the Board
to find the economic feasibility, as well as the need for service, on all of the other
public convenience and neces^ty factors that should he considered by the Board.
No obstacles should be placed before the carriers who are willing to prosecute
or the city who has expressed a need for such service. This puts the Board in a
position of administering an industry in the proper environment and deciding the
need for service on a case-by-case basis in order to prevent significant service
deficiencies and to encourage the development of future service opportunities in
the air transportation industry.
2. Amend or supplement the existing statutory provisions to provide that non-
stop authority which is not exercised for one year will be presumed to be aban-
doned. At any time thereafter, the authority to provide such service should be
granted to any carrier fit, willing, and able to exercise the authority, upon
application of any party in interest. The application should be processed in a
prompt and expeditious manner, and, in the absence of objection, should be
granted witl out hearing.
"Nonstop service is the level at which air travel has its greatest advantage
and it is incumbent upon the Board to assure the availability of such .service
wherever economically possible" (page 167). This is one of the most critical areas
for regulatory activity affecting the future development of the air transportation
industry. The study dealt with all airline markets in the U.S. producing more than
2,500 nondirectional O&D passengers in 1972 (approximately 6.8 per day) (page
70). There were 4,112 analyzed, of which 2,928 have nonstop authority. In other
words, 71 percent of the airline markets studied have nonstop authority that has
been srranted by the Civil Aeronautics Board. Of this group or 2,928 markets, only
590 receive competitive nonstop service. In addition, another 639 markets receive
noncompetitive nop.stop service. Therefore, we see that a total of 1,229 markets
receive nonstop service of some form, which is only 42 percent of those markets
where nonstop authority exists and was found to be necessary at one time or an-
other by the CAB.
When we look at the 1,699 markets where nonstop authority exists but is
not provided, on eitlier a noncompetitive or competitive basis, we begin to focus on
the extent of the need for the development of a regulatory policy designed to
create the incentive and the initiative to place this authority in the hands of
carriers fit, willing and able to provide such services. The regulatory conditions
established by the CAB should i>ermit new entry into the the markets. The in-
cumbent carriers have had years to provide such service and has found that their
system or their equipment is impractical to the provision of nonstop service. This
is the key legislative proposal designed to rationalize the route system for the
future. "The authority of any incumlient carrier whose service is considered to be
deficient — whether or not legally 'adequate' in the statutory .sense — would be
considered for outright deletion or deletion in conjunction with the issuance
of replacement authority to another carrier" (page 153). This language in the
study clearly supports our recommendation.
3. Amend or supplement the existing statutory provisions to require an ex-
peditious review by the CAB of all scheduled air carrier certificate restrictions
that have not been imposed or specifically renewed within the past 5 years on
721
the basis of a public record affirmatively establishing a public convenience and
necessity requirement. The statute should further require that no restriction
may be'imposed for a period longer than 5 years; and that in order to renew
it for additional periods of up to 5 years each, an affirmative showing must
be made that each such renewal is required by the public convenience and
necessity. . .
Restrictions in an air carrier's certificate generally represent recognition of
conditions affecting other carriers, especially with regard to impact on serv-
ices provided by other carriers. Since such action is permanently imbedded into
the air carrier's certificate, a restriction has a tendency to remain in a carrier's
certificate without change until a formal CAB investigation has been conducted
to investigate the need for perpetuating such service conditions. Since the CAB's
route moratorium has been effective, there is no opportunity for the public to
be heard with regard to the need for a change in such restrictions nor is there
an incentive for the carriers to pursue the elimination of such restrictions. How-
ever, if restrictions were made temporary in nature, the CAB would automati-
cally focus its attention on the need for the retention of such conditions. The
burden of proof for the need to retain restrictions would be placed upon the
individuals who would be adversely affected if the restriction were removed. If
no demonstration by such individuals is made under the circumstances that
prevail at the end of such 5-year period, then that restriction would be removed
from a carrier's certificate. This, of course, enables the carrier to provide a more
effective level of service in the market.
Tiie conditions that prevailed at the time of the imposition of a restriction
often times change in such a volatile, and growing industry. Therefore, this
allows the regulatory process to maintain a timely evaluation of such conditions
in order to allow the CAB to keep pace with technological developments.
4. Amend or supplement the existing statutory provisions to require the award
of ne^v competitive authority wherever it can be shown that the carriers' opera-
tions in the market will produce reasonable results. This proposed amendment
is predicated upon the demonstrated fact that competition develops traffic, im-
proves service, lowers fares, and lowers unit costs by expanding service and
promoting efficiency, all for the public benefit.
El'iective and constructive competition is the key to the complete develop-
ment of the air transportation system operating with maximum efficiency
with the lowest unit costs possible and. therefore, charging the lowest prices
possible to tlie pass-engers. The CAB's Bureau of Operating Rights study de-
veloped an extensive analysis of the air transiX)rtation industry's operations
between 1960 to 1972. The development of competitive routes produced solid bene-
fits to the traveling public as well as economic benefits to the carriers.
Constructive two-carrier competition did not destroy the economic viability of
the carriers. Constructive two-carrier competition improved service, lowered fares,
lowered break-even load factor requirements, stimulated traffic development, stim-
ulated technological development, lowered unit costs and extended significant air
service improvement into other noncompetitive markets.
AVhile the study did not conclude that competition was beneficial to the indus-
trv, the information in the study clearly demonstrates that this is the case. The
growth of scheduled airline passenger traffic from 1960 to 1972 is overwhelmingly
dominated by the growth experienced in the competitive markets. Comparative
revenue passenger miles grew at 14.1 per year is competitive markets versus 11.6
percent per year in monopoly markets. An illustration of chart 10 (page 102)
(if the study'is a dramatic display of the difference in development between the
two, irdicating that substantial market development, growth and stimulation
takes place in competitive markets. Also, there has been no growth in the monop-
oly markets since the CAB's route moratorium started. When the moratorium
began in 1970, traffic fell from the 1969 level in the monopoly markets (appendix
A, table 7).
Competitive authorizations in the sixties often produced new single-plane
service in monopoly markets causing traffic stimulation. The comi)etitive route
awards during the late sixties were the primary reason for most of the growth
experienced in the monopoly markets during this period. Had it not been for
this policy, not even the moderate growth experienced in the monopoly markets
prior to 1969 wouUl have been achieved.
"Moreover, growth rates in ?ompetitive markets are higher since, generally,
they tend to be larger, rapid growth markets with higher traffic levels and lower
722
yields than monopoly markets" (page 105). Thi?, in itself, is a very strong
endorsement for competitive operations when possible. Prior to the CAB's
route moratorium, after a service investigation in the market, the CAB found :
"In some cases, however, competitive service was authorized simply because a
market was large enough to support competitive service — on the theory that
competitive service is per se, better than monopoly service" (page 50).
"Competition tends to reduce the actual yield received by a carrier, i.e., the
dilution factor in competitive markets tends to be greater than noncompetitive
markets" (page 97). Also, "Since competitive markets are on average of higher
density than noncompetitive markets, route density should favor, again assuming
other things equal, a lower break-even point in competitive markets" (page 97).
The extension of flights to additional cities usually inaugurates single-plane
service between the new city and each of the other cities in the itinerary. This
change in service is often the result of the award of new competitive service
(page 75). The first single-plane beyond area proposals considered during the
route cases of the sixties constituted a primary method by which the linear
network was extended, and in many cases resulted in service patterns which
could not have been sustained by other than a combination of traffic flows in
several markets including the markets directly at issue (page 52). These beyond
area benefits flow directly from the authorization of competitive service and
contributed greatlv to the growth in the monopoly market between 1960 and
1972.
The mandate in the Federal Aviation Act regarding the development of com-
petition should be particu'arly important. The findings in the CAB's BOR study
are not related to the material contained in the study and point the Civil
Aeronautics Board on a course in the opposite direction with regard to competi-
tive policy. The objective of the study appears to isolate on the principle that
competition creates most of the problems in the air transportation industry,
should be avoided in the future, and should be eliminated wherever possible.
The conclusion of the study is : "The system has offered, in general, an overall
volume of service that is excessive in relation to demand in competitive markets"
(page 8). With some hesitation the study concludes that competition drives load
factors below the reasonable level and prevents carriers from achieving a 12
percent return on investment. Therefore, the CAB should adopt a policy through
the implementation of standards, of avoiding this in the future in order to
improve the economic conditions of the industry.
The study indicates that the key to developing the improved economic condi-
tion of the indu.stry is to increase load factors ; and that the key to increasing
load factors is to eliminate competition as much as possible by discouraging
competition in markets today, encouraging capacity restriction agreements and
denying considerati(>n for the authorization of competitive service in the future.
The study concludes : "If any real improvement in load factors is to be achieved
by a lessening in the degree of competition, it is necessary to establish monopoly
status for the markets in question" (page 89). This, of course, is a gross over-
simplification of (he problem with regard to competition versus profits. No one
denies that excessive competition or destructive competition hurts the industry
and is not in the public interest. However, nowhere in the study is there any
support for the concept that two-carrier competition creates these problems.
Destructive competition creates thes^e problems. Constructive competition has
proven to be beneficial to the industry, the carriers and the traveling public. The
particular features with regard to the determination for the need for competition
on a route can only be obtained through the hearing process established by the
Civil Aeronautics Board. Of course, if not contested, competitive route awards
should be made automatically.
5. Amend or supplement the existing statutory provisions to require the board
to adopt procedures for the prompt and expeditious handling of route eases
similar to the present subpart m and n and show cause procedures, and to facili-
tate the expeditious processing of cases wherever possible.
The Board has within its rules and regulations at the present time methods to
handle, expeditiously, route applications in order to avoid a prolonged adminis-
trative procedure dealing with every change in operating authority. These ad-
ministrative vehicles are timely and efficient and far less costly for both the
carriers and communities in terms of time and expenses when compared to par-
ticipating in a normal CAB investigation.
723
When route case applications are uncontested, no hearing should be required.
However, when there is a contested route case application, a quick determination
should be made with regard to the scope of an investigation, and wherever pos-
sible expeditious treatment should be given consistent with the interests of the
public.
Determining priority with regard to route policies has always been a monu-
mental problem at the Civil Aeronautics Board and is a necessary part of the
agency's discharge of its responsibilities. However, the effective handling of this
area is both feasible and desirable and the CAB should be allowed to pursue the
development of regulatory practices which permit it to function in this manner. If
additional staff is to be required, we urge that the Congress support such a re-
quest. It may even be practical for the Civil Aeronautics Board to consider the
possibility of maintaining a limited scale of operation outside of Washington
similar to the manner of other government agencies in order to process more
expeditiously the need for regulatory action in the other parts of the country.
6. Adopt legislation that will recognize air transportation as the basic func-
tioning mass transportation system for intercity travel in this nation. As such
there should be a legislative requirement that it be accorded a top priority fuel
allocation that will meet the full need of the system and thereby encourage the
most efficient use of available fuel supplied. Fuel limitations will cause a further
shriveling and riddling of the nation's air transport services. This is the route to
higher unit costs, higher air fares, higher load factors because of less available
service, higher profits, a severe shrinkage in overall public accommodation, and a
greater dependence upon the private automobile. Fuel shortages have provided
and may soon again provide a primary excuse for a failure to respond to urgently
needed new air transport services and in many instances will lead to a literal
reduction in required public service.
The air transportation industry is the mass transportation system that is de-
signed to meet the needs for the present, as well as for the future, of intercity
travel. The cultivation and development of this industry can accomplish enor-
mous economic benefits for our country, as well as create a condition, whereby we,
as a country, can conserve fuel in a logical and sensible manner. The availability
of fuel at a reasonable price is critical for the industry to grow and develop to
meet the present and future needs of this nation. An effective regulatory atmos-
phere combined with this feature can produce an industry that can contribute
greatly to the economic recovery of this country.
Growth has always been the key ingredient in the long history of decreasing
unit costs in air transportation. Growth, resulting in lower unit costs, has en-
abled the airline industry in the past to offer a pricing structure that has made
air transportation one of the highest quality and least inflationary services of
any in this nation. Growth means lower unit costs and consequent ability to pro-
vide lower fares, which in turn means more traffic and more need for additional
and better aircraft. This leads to more technological advancement resulting in the
production of aircraft with lower seat mile costs, which again permits lower
fares (or at least a lower rate of increa.se than nearly everything else) ; thus,
more traffic, more growth, etc. When this occurs, it provides substantial additional
stimuli to the national economy through expansion of employment in the airlines,
the manufacturing companies, airports and all other air transport-related in-
dustries. Expansion and growth are absolutely vital to the industry.
7. Adopt legislation directing the Civil Aeronautics Board to establish classi-
fications of markets or cities whereby priority of hearing can be decided within
each such classification. The most urgent need in a small or medium market or
small or medium sized city should be heard as quickly as the most urgent need
in the nation's largest markets and largest cities. Without such a system, the
critical needs of any less than the biggest may never be heard, for they will be
constantly submerged further from the top.
The need for air transportation is not confined in any special category of cities.
The need for air transportation exists in cities that are remote, as well as cities
closely located to major metropolitan areas. The ability of the air transportation
system to function effectively is to recognize this need on a timely basis for all
types of cities in all types of circumstances.
At the present time. 18 airlines are certificated by the Federal government to
meet this transportation need. Every opportunity should be granted to these
carriers under the jurisdiction of the Federal government to meet this need.
However, if these carriers are not fit, willing or able to meet this need, the cer-
tification of other carriers must be considered in order for the air transportation
724
industry to properly develop under a sensible regulatory atmosphere. The industry
needs regulation. The industry needs positive incentives in order to develop the
potential that presently exists. The potential of this industry is still in its
infancy.
Enlightened Federal regulation is the key to the effective development of the
air transportation industry. Air service to the small community must be developed
as effectively as air service to the large community. This can only be done in a
regulatory environment conducive to the complete development of an air trans-
portation'industry under a uniform system of regulatory incentives.
725
ATTACHMENT D
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728
PSA LOAD FACTOR HISTORY
1967 - FY 1972
ATTACHMENT P
Load Factor
Los Angeles
Period
San
Francisco
San
Jose
Oakland
i7
68%
63%
67%
i8
59
59
63
.9
54
51
54
0
56
53
59
1 - 1st Quarter
2nd Quarter
3rd Quarter
4th Quarter
53
58
61
60
48-
55
48
54
57
60
63
59
'2 - 1st Quarter
2iid Quarter
60
61
54
58
60
64
Source: California Public Utilities Conunission
Form No. 1504
729
Airport Operators Council International, Inc.,
March 4, 1975.
Hon. Edward M. Kennedy,
U.S. Senate,
Washington, D.C.
Dear Senator Kennedy: On February 18, your subcommittee received testi-
mony on the subject of Civil Aeronautics Board Regulation of Airline Route
Awards from Mr. James Gagnon, Chairman of the AOCI ad hoc committee on
air service and general manager of the Louisville and Jefferson County (Ken-
tucky) Air Board.
Because of the subcommittee's need to receive the prepared testimony a num-
ber of days in advance of the public hearing, the draft text of Mr. Gagnon's
presentation and the many attachments to his prepared testimony could not be
reviewed by the AOCI Board of Directors in advance of his scheduled appearance
on February 18.
The AOCI Board of Directors at its meeting on February 20 did, however,
review the testimony of Mr. Gagnon with a view toward determining whether
his position, as presented to the subcommittee, reflected the views of all AOCI
members.
The AOCI Board concluded, and directed that we so communicate to you, that
the views expressed by Mr. Gagnon on the issue of the CAB route moratorium
are supported by the "full AOCI membership to the extent consistent with the
attached resolution of October 6. 1974.
All other issues addressed by Mr. Gagnon at this time reflect only his individual
views or those of the ad hoc committee he presently chairs and should not be con-
sidered the official views of this association or its entire U.S. membership. Specifi-
cally, the CAB staff study on the "Domestic Route System : Analysis and Policy
Recommendations" (October 1974), on which Mr. Gagnon commented, has not
been reviewed by AOCI at this time. Copies of our formal comments on the study,
due to the Board by May 1, will be forwarded to your subcommittee for its infor-
mation. Further, the AOCI membership at this time does not endorse any of the
specific legislative recommendations set out in Mr. Gagnon's text. While AOCI
may well, after review of the ad hoc committee's findings, support some or all
of its legislative proposals, they do not have any AOCI endorsement at the cur-
rent time.
Should AOCI support any legislative proposals for improving the process for
CAB action on air route matters, you may be assured that these would be com-
municated to your subcommittee as well as to the Senate Aviation Subcommittee
which has substantive jurisdiction over the Civil Aeronautics Board.
We would request that this clarification of AOCI's views on the issues before
your subcommittee be placed in the printed record of your hearings, in conjunc-
tion with Mr. Gagnon's testimony, to minimize any confusion resulting from the
testimony.
We apologize for any inconvenience that might have been caused to the sub-
committee by the inability of our Board of Directors to review the prepared testi-
mony of its Air Service Committee in a timely manner prior to its presentation
on February 18.
Sincerely, _ ^ ^
Donald G. Shay,
President.
Attachment.
Moratorium on Air Route Hearings
Whereas, the Civil Aeronautics Board is engaged in a moratorium on its regu-
latory activities involving the potential authorization of new. altered and/or
competitive air service patterns within the U.S. domestic air transportation sys-
tem ; and . ,
Whereas, it is the conviction of AOCI that this moratorium is in conflict with
the law and legislative mandate of Congress ; and
Whereas, this moratorium has detrimental impact upon the public interest,
contrary to the provisions of Congress through its legislation ; and
Whereas, the AOCI does represent the broadest single segment of public inter-
ests in aviation matters, and therefore is best suited to represent the public in-
terest before the Congress and Civil Aeronautics Board ;
Now, Therefore, Be It Resolved, by the Airport Operators Council Interna-
tional in meeting assembled, that
730
1. The AOCI Policy Handbook be further amended by the addition of a
new section 6.15, Moratorium on Air Route Hearings, as follows :
6.15 MOBATORIUM ON AIR BOUTE HEARINGS
AOCI requests and urges the Civil Aeronautics Board to rededicate its efforts
in the spirit and intent of the Federal Aviation Act of 1958, as amended, to
futher develop the domestic air transportation system in the public inter-
est. In the view of airport operators, the CAB should immediately rein-
state the judicial and evidentiary processes contained in its rules of practice
in economic proceedings, involving the potential authorization of new, al-
tered and/or competetive air service ; and
2. The AOCI ad hoc committee on air service is urged to prepare and im-
plement a program involving the entire domestic membership in an effort
to bring to the attention of Congress that the public convenience and neces-
sity for adequate air services can no longer be met by continuation of the
moratorium ; and
3. The executive vice president is directed to forward copies of this resolu-
tion to the Chairman and members of the Civil Aeronautics Board, and to
the President of the United States, the Vice President of the Ignited States in
his capacity as President of the Senate, and to the Speaker of the House of
Representatives.
Adopted at the general membershin business meeting of the Airport Operators
Council International on October 10, 1974.
[The following prepared statement by Robert J. Aaronson, State
Aviation Administrator, Maryland Department of Transportation,
was also submitted for the record.]
Federal Regulation of Route Awards
Robert J. Aaronson
The State of Maryland is the owner and operator of Baltimore-Washington
International Airport. The management of the airport rests with the State Avia-
tion Administration, Maryland Department of Transportation.
Baltimore-Washington International Airport (BWI) was first opened to com-
mercial airline service in June of 1950. At the time the facilities were constructed,
the airport was the most advanced in the nation. For many years the airport
served the airlines and the traveling public well. When the Baltimore-
Washington Parkway was built in 1954, a high-speed connector road was pro-
vided directly into the terminal, facilitating access to the airport from all direc-
tions. This development was to attain greater importance in the following years,
with the introduction of commercial jet services at the facility. The airport was
the enst coast terminus of the recordbreaking transcontinental flight by the
first Boeing 707 ietliner in 1957. and 2 years liter in 1959. was the scene of
federal certification ceremonies for the Douglas DC-8. The foresight of the City
of Baltimore in building this airport, with its extensive facilities, provided the
Baltimore-Washington art a with its only jet airport until the opening of Dulles
Airport in 1962.
However, by the late sixties. Friendship International Airport, as the airport
was then called, had not kept pace with industry growth and its facilities were
generally considered inadequate by both passengers and airlines. Recognizing
the importance of the airport facility to the Maryland/Virginia/D.C./central
Pennsylvania region, the State of Maryland purchased the airport in July of
1972.
In January of 1973, Secretary of Transportation Harry R. Huehes, and State
Aviation Administrator Robert J. Aaronson, announced an ambitious, two-fold
plan to upgrade, improve and modernize all airport facilities and service. The
$50 million improvement and modernization program will create an airport which
presents an entirely new face to the traveler. The entire program is planned for
completion in time for the nation's bicentenial celebration.
On November 16, 1974, the airport was renamed Baltimore- Washington Inter-
national Airport, a name which readily identifies the important regional character
731
of the airport service area. As attachment 1 indicates, Baltimore-Washington
International Airport is the only airport among the three serving this area which
conveniently serves both Baltimore and Washington. While both National Airport
and Dulles Airport provide important public benefits to the Washington, D.C.
air traveler, neither airport conveniently serves the Baltimore traveler. The basis
for these statements is a recent survey of air passengers departing the area's
three airports. The survey was conducted through the cooperative efforts of the
Maryland Department of Transportation, the Commonwealth of Virginia and the
Washington Council of Governments. .
In addition to initiating a program for the development of airport facilities,
the State of Maryland has also undertaken a program to improve and expand the
air services which are required at Baltimore-Washington International Airport.
The State has recently completed a comprehensive review of air service in the
Baltimore/Washington consolidated metropolitan area and has projected sched-
uled air service requirements at Baltimore-Washington International Airport,
requirements which recognize the unique role played by this airport.
The air service analysis centers upon the top 50 ranking Baltimore/Washing-
ton markets. These are all large and important markets, with even the 50th rank-
ing market, Columbia, S.C, generating in excess of 150 daily passengers. Mary-
land's analysis indicates that nonstop service between Baltimore -Washington
International Airport and each of these 50 cities is currently requiretl by the
public and can be operated at a profit. Attachment 2 tabulates by market 1975
passengers who would use BWI, provided adequate nonstop service is available.
Attachment 3 lists Baltimore/Washington's top 50 markets and indicates the
nonstop authority possessed by each of the 12 airlines serving this area differ-
entiating between Baltimore-Washington International Airport, National Air-
port, and Dulles Airport. The attachment also indicates where nonstop authority
is not currently being used ; that is, where no nonstop round-trip service is oper-
ated by the subject carrier, as of February 1, 1975. This attachment clearly shows
the inadequate service level at BWI. For example, United Airlines has BWI non-
stop authority in 31 of the top 50 Baltimore/Washington markets. However,
United operates nonstop service in only 8 of these 31 markets. Both American
Airlines and TWA have nonstop authority to and from BWI in 15 markets, but
only operate in two. As can be seen, this pattern is reflected in the BWI operations
of other carriers.
Maryland's program to improve air service at Baltimore-Washington Inter-
national Airport is based in part upon efforts by the state to persuade airlines
with existing authority to provide the needed service. Maryland believes that
this approach will be successful in developing some of the needed service. Where
nonstop service has been authorized and is economically feasible, nonstop service
should be provided. However, where a CAB-authorized airline is unwilling or
unable to provide the required service, Maryland will seek new authority for an-
other interested carrier. This new authority, of course, requires CAB action.
1970-1975 Route Award Moratorium
Unfortunately, through the actions of the Civil Aeronautics Board which sup-
port statements made by Board members and staff, there has been, since 1970, a
moratorium in the granting of new route authority, or even hearing applications
for new route authority. For example, the CAB's Bureau of Operating Rights
(BOB) study. The Domestic Route Syst^tn, states in the foreword:
"Since approximately 1970, cases involving new domestic route authority have
generally not been set for hearing, and applications filed under subpart M and N
have been stayed or dismissed. Instead, the Board has accorded priority to other
matters, principally in the area of rates and enforcement, as well as certain other
route and route-related actions."
The Domrotic Route System Analysis and Policy Recommendation By the Bureau
of Operating Rights
The CAB staff study conducted by the BOR contains recommendations which,
if adopted, would formalize in CAB regulations the now informal moratorium on
route awards. Generally, the proposed regulations or standards present severe
economic obstacles to the continued development of air transportation in this
country. As can be seen by the situation at Baltimore-Washington International
Airport (attachment 3) certain sectors of the United States' air transportation
732
system require further development, including new route awards and redistribu-
tion of unused authority. Maryland's program of air service development will
be seriously damaged, not only by the inability to gain favorable CAB action
on requests for new market entry by willing and able carriers, but also in carrier
negotiations because carriers with unused authority will feel protected by the
CAB.
For example, there are an estimated 228 dnily passengers available to support
nonstop service between BWI and St. Louis, Baltimore/Washington's 15th rank-
ing market (attachment 2).
Eastern .'ind TWA possess nonstop authority but nonstop service is not pro-
vided by either carrier (attachment .3). This level of traffic would support two
round-trip nonstop flights in DC-9 or B 727 aircraft and develop a 61 percent
passenger load factor. The passenger load factor required to cover all costs plus
a full 12 percent return on investment is only 53 percent, indicating that two
round-trip.s should be profitable to either carrier.
Maryland plans to discuss this analysis with Eastern and TWA in an attempt
to persuade one or both carriers to provide nonstop service (in the past, as
many as 2% round-trip nonstops have been provided by TWA). If this effort is
unsuccessful, Maryland will approach Allegheny which now has onestop author-
ity (and service) in this market to see if this carrier is interested in providing
nonstop service. If so, a request for a restriction removal will be made at the
CAB. If not, another carrier will be approached.
If, because of either a formal or an informal route moratorium, there is little
likelihood that the CAB would award new BWI-St. Louis nonstop authority —
and this is known in advance by Eastern and TWA — these two carriers will feel
no pressure during discussions with us to agree to operate the required, profit-
able BWI-St. Louis nonstop service. Their unused authority would be protected
by the CAB and an economic opportunity denied another willing carrier. And of
course, a public need goes unserAed.
I will now briefly review these "standards" proposed by the Bureau of Operat-
ing Rights, indicating how they would further the current moratorium on route
development.
First Nonsiop Service Standard
The standard proposed by the Bureau before allowing first nonstop service in
a market is :
"♦ * * true O&D plus flow traffic, for the previous 12 months . . . sufficient to
maintain a 55 percent load factor on two roundtrips with the smallest aircraft
type commonly used in city-pairs of similar mileage range." (page 165) ^ "Non-
stop service is the level at which air travel has its greatest advantage and it is
incumbent upon the Board to assure the availability of such service whenever
economically possible." (page 167)
This standard is counterproductive if the CAB truly seeks to maximize non-
stop services. It is based upon the actual traffic flows in a market prior to first
nonstop service. New nonstop service will obviously stimulate the develo>ment
of traffic in the local market, as well as improve the amount of through traffic
travelling over the city-pair segment to or from other cities. This new traffic
is not considered by the study standard in determining the need for nonstop
service despite the fact that the CAB has historically relied on this traffic in
granting new authority.
In addition the proposed standard allows, to a large extent, the incumbent
carrier to control market entry instead of the CAB. For example, since historic
traffic controls the requirement for first nonstop service, the incumbent carrier
can restrict local market development by operating at very high lond factors (but
under 75 percent) and can, through schedule manipulation, redirect or minimize
beyond passenger flows. Onestop service can be operated until passengers
practically beat down the carrier's doors demanding nonstop service. Thus
the carrier can operate ju-^t one nonstop service, but carefully control the load
factor with multistop flights, without ever facing the real prospect of having
this market meet the requirements for additional nonstop service.
1 For markets over 2,000 miles In length, high capacity wide-body aircraft are used for
tnls st.Tndard. Insuring no new long range markets will be adequately developed. The
BOR study, in fact, indicates frst nonstop service would be required In only one new long
range market by 1985. (page 144)
733
First or Additional Competitive Authority
Under this standard, one, the proposed operations must earn a full 12 percent
return on investment in the first year; two, traffic diversion from incumbent car-
riers cannot exceed 35 percent ; and three, the incumbent carriers' return on in-
vestment cannot, because of the new authority, be reduced either below 6 percent
by 1/2 or more.
The first comment on this standard, of course, is that it is simply unreasonable
to exi>cct such a high return on investment in the very first year of operation.
At the beginning of the lirst year, because of lack of market identity, the new
carrier will earn less than a 12 percent ROT. As the year progresses, the new
carrier must progressively improve its ROI so that the year will average 12
percent. This means a greater tha:i 12 percent ROI by year's end (and a load
factor higher than 55 percent). If for some unusual reason, the new carrier
could achieve a 12 percent ROI in the first year, the second year will clearly
result in excess profits and public disservice in the form of high load factors —
particularly if the CAB considers annual load factors up to 75 percent as re-
flecting adequate public service.
Secondly, few markets, if any, can meet this requirement using reasonable,
accepted traffic forecasting methods and, thus, the route moratorium will be
automatically perpetuated.
The 55-Percent Load Factor Standard
The BOR study professes to adopt the rate-making benchmarks established in
the domestic passenger fare investigation (DPFI). In actuality, what the BOR
has done is to take the DPFI industry average 55-percent load factor standard
and make it the carrier and market minimum load factor standard. The 55 percent
passenger load factor standard is, in reality, a CAB desired average for trunk
carrier coach service. It was not a flat standard, but varies by mileage block, with
long-haul and short-haul markets having lower load factor standards (approxi-
mately 50 percent at transcontinental distances).
The BOR study has used 55 percent as a minimum load factor at all mileage
blocks and has expanded it to include first-class service and local-service car-
riers— an action the Board specifically refused to take in the DPFI.
The 12-Percent Return on Investment Standard
A!?ain, the BOR twists the meaning of the ratemaking standards adopted by the
CAB in the DPFI. The 12 percent ROI standard is an industry average, based on
trunk carrier operations. The BOR study includes local service carriers and makes
this standard a by-carrier, by-market minimum and not an industry average.
General Comments
The objective of the BOR study appears to develop the principle that competi-
tion is bad and has been the cause of the air transportation industry's financial
problems.
"The system has offered, in general, an overall volume of service that is exces-
sive in relation to demand in competitive markets." (page 8)
"However, the load factor analysis conducted as part of this study together
with the results of other studies, supports the general conclusion that competition
does limit profitability." (page 8)
AND
". . . the present trunk system is so highly competitive, in terms of service, that
there is some question whether trunk cariers will be able to achieve average load
factors sufficient to enable to earn a 12-percent return on investment on a
consistent basis." (page 8)
AND
"If any real improvement in load factors is to be achieved by a lessening in
degree of competition, it is necessary to establish monopoly status for the markets
in question." (page 89)
No one will argue that excessive or destructive competition is good for this
country's air transportation system. However, there is no support in the study
734
for the fact that two carrier competition has these characteristics. In fact, the
study presents the main reason for excessive capacity at page 56 :
"The overall level of service provided in relation to demand is, however, pri-
marily a function of rate policy."
Contrary to the tone of the recommendations at the end, the BOR study
strongly supports the position that the CAB's route development policy of the
1965-69 period created enormous benefits for the industry and the travelling
public through lower unit costs, lower fares, and improved air service. The
authorization of competitive service was given much of the credit.
"Moreover, growth rates in competitive markets are higher since, generally,
they tend to be the larger, rapid growth markets with higher traffic levels and
lower yields than monopoly markets." (page 105)
Thus, viewing the study from an overall standpoint, it displays a troublesome
degree of inconsistency between its basic study analyses and its recommended
standards.
One of the most dangerous features of all is that the BOR-recommended
standards would operate effectively to block the Board members from exercising
fundamental responsibilities placed upon them by the Federal Aviation Act of
1958. Under the recommended standards, the staff — not the Board — would decide
what applications would (or would not) reach the Board for decision. Such
prejudgment by the CAB's staff hardly conforms to the intent of Congress that
the Board members themselves should bear the decisional responsibility with
respect to all route applications.
Further, the airlines should fear the domination of their affairs now proposed
by the BOR. While today, these standards may favor the financial interests of the
airlines, tomorrow the standards may not — but the carriers will be powerless to
change the process.
One shudders to think of the type of air transportation system this country
would have if these standards had been in effect the past 25 years.
Recommended Legislation
Historically, the Civil Aeronautics Board has been the finest and most expertly
run of this government's regulatory agencies. The development of air transporta-
tion in this country, as compared with other countries, is a testament to the
soundness of the law which created the CAB. Radical changes will be destructive
and costly to the travelling public in terms of poorer service and higher fares
which would inevitably be created by the resulting turmoil. However, in recent
years the CAB has become so concerned with the financial well-being of the
industry, that genuine public interest considerations are hard to discern in the
CAB's majority opinions. There is also rising concern that the CAB staff is
assuming responsibilities granted to the CAB which by law can only be exercised
by the Board members. While the basic law remains sound. Congress should pro-
vide greater direction for the CAB through more specific policy guidelines. The
following suggestions are respectfully submitted :
1. Public interest considerations must be faced and dealt with effectively as
a major factor in the decisional process. This country's commerce depends upon
reliable, reasonably prictd, and convenient air service. While the carriers' finan-
cial well-being is important, the provision of adequate air service to the public
remains the underlying goal.
2. Competition helped build the finest air transportation system in the world.
To maintain and expand this quality of air service, the CAB shall authorize
competitive service whenever a market grows to the point where competitive
service is economically feasible.
3. In recognition of the fact that numerous unjustified and outmoded CAB-
imposed restrictions currently encumber carriers' ability to operate nonstop
service and that, in many cases, these restrictions were imposed without an
affirmative showing of need, provisions shall be made for immediate review of
all restrictions. None should be renewed unless an affirmative public convenience
and necessity showing is made. Further, any restriction so-renewed and newly
imposed restrictions shall be for a set period of time after which an additional
showing of need shall be required for subsequent renewal.
4. Where an air carrier possesses unused authority and refuses to use such
authority, after a reasonable period of time, it shall be transferred to any willing
carrier who can demonstrate that the proposed service will be economical.
735
5. In recongition of the fact that air transportation is the basic mass trans-
portation mode for intercity passenger travel, the Board shall give precedence to
the public interest in adequate air transportation whenever making any decision
or taking any action that involves fuel policy, including disposition of route
applications.
Attachments.
736
Attachment l
DULLES INTERNATIONAL AIRPOHT'S PRIMAHT AND SECONDARY
SERVICE AREAS ^^'ITHIN ^STROPOLITAN BALTIH0REA.'/'.SHIKGT0N
I //-to.
0
59?5 of
Metropolitan
Baltimore/
Washin^on
Population
Notet
>•^,Y■^ Secondary service
t-^'^^f;^ *^^ ^s shaded.
737
BALTIKORE-WASHINGTCN INTEiWATIONAL AIHPORT'S PHIKAEY AHB SECONDARY
SKRVICS AfiS.'^S VflTrilN HBTROPOLITAN B.'aTIMORE/HASHINGTON
of
Metropolitan
Baltimore/
Washington
Population
Note I Secondary service area is shaded
738
WASHINGTON NATIONAL AIRPOST'S Paii^ASY AM) SECONDARY
SERVICE AflEAS WITHIN :-[grROPOLIT,\N BALTIM0R3/v;ASHTNr.Tnw
Note I Secondaiy service area Is shaded.
739
Attachment 2
estimated 1975 baltimore/kasiiington
passengers using baltimore- iwxskington international
airport under adequate nonstop service conditions
Top 50 Markets
Bet'v'een Baltimore/
Washington and:
1975 Daily Passengers
Through BUT Airport
1
NewYork/Newark
2
Boston
3
Chicago
4
Miami/Ft. Lauderdale
5
Los Angeles
6
Atlanta
7
San Fiancisco
8
Detroit
9
Pittsburgh
10
Philadelphia
11
Da 11 as/ Ft. Korth
12
Cleveland
13
Hartford
14
Norfolk
15
St. Louis
16
Denver
17
Minneapolis/St. Paul
18
Providence
19
Raleigli/Durham
20
Butfalo
21
Houston
22
Cincinnati
23
Coluir.bus, OH.
24
New Orleans
25
Minneapolis
26
Tampa
27
Kansas City
28
Orlando
29
Richjiiond
30
Albany
31
Dayton
32
Rocliester
33
Louisville
34
Newport News
35
MeiT.phis
36
Seattle
37
Roanoke
38
San Diego
39
Syracuse
40
Charlotte
41
Greensboro
42
Jacksonville
43
Kno.w i 1 1 e
44
Nashville
45
Charleston, S.C.
46
Milwaukee
47
Charleston, K.VA.
48
Huntsville
49
Phoenix
50
Coluiiibia
Local Market Plus
Local Market
Beyond Market Flown
1,111
1,390
765
997
1,109
1,241
486
503
515
561
1,028
1,197
384
410
245
249
453
540
137
757
313
461
306
326
260
545
203
372
151
228
365
409
134
153
179
308
136
263
147
241
222
372
189
452 .
125
170
250
440
185
383
113
189
174
478
141
256
116
201
249
431
81
111
67
97
73
90
110
229
64
146
108
113
173
264
120
213
71
128
86
110
81
94
68
205
73
119
61
117
66
115
49
78
87
140
74
74
94
187
79
90
740
Attachment 3
usnD Avj L)i;rs:;D Nc:ovnp AirnartiTY
Bctwoon
[i-lti:7.oro/'.'.'aihin^toa
1
N'o-.v York
7
ioiitoa
Cr.ica .0
4
5
Lo^ Aajcles
0
Atlanta
7
San Francisco
Detroit
9
10
11
12
Pittsburiih
;T.iiaJolphia
Dallas
Clo'.'cl.-.nd
13
14
IS
16
Hartio.-ci
Norfolk
St. Louis
Denver
17
IS
10
20
;:in:;e:.polis
froviuencc
:;uti:aio
21
22
Kousvon
Cincinnati
23
Co:u..jus, 0.
24
Kew Orleans
2o
27
23
29
30
31
32
InJii.iiapolis
Kan'sas City
Orlando
Rich,-..ond
Albany, NY
Dayton
Rochester, NY
33
Louisvillc
34
Kc'./port News
35
Kc-.7i;jhis
36
Seattle
37
Soanokc
33
San DiCi:o
59
iyracube
^.0
Charlotte
41
Greeniboro
42
J..cksoaviilc
-■.3
!;r.Gxville
44
.\a',;,villo
45
Cliarieston.S.C.
45
Milwaukee
47
Charlcston.V.'.Va.
43
Iluntbvillc
49
50
I'AOcnix
Colu;v,bia, S.C.
,>;vc
•a-c - -
EOS
lios Eos'r.os*
CHI
Hi A
L\X
ATL
S~0
DTi-
PIT
PI" -
?'.:L
PKL-PHL PilL' !
DAL
CLE
ZZiL
BD.* BDL EDL*
0?'-
STL
DIN
KSP
PVD
PVI,*PVD PVD'
!;du
I
;iiji"
EL;:--'^yF blv* '
ia;;
c\c
CVG - -
C''~i
.'■..SY
I.\D -
VPA
MCI
:--;co
RIC
AL?
ALU*ALa*AL:i-|
DAY
1
ROC
- ROC ROC* 1
SOI-
1
VWV
1
SEA
1
i
ROA
1
1
SAN
SYR
- SYR SYR* 1
CLT
1
GSO
1
JAX
TYS
3XA
1
CHS
M:ct
CRW
CRW - -
HSV
?:ix
CAC
PHL'PHL'PHL*
DAL - DAL
PVD PVD PVD
TYS TYS TYS
B.'sA* ENA C.\'A"
,VY(.' NYC ::yc
BOS BOS ECS*
MIA*KIA*MIA*
ATL ATL ATL
PHL PHL' PHL*
BDL* BDL* BDL*
KSY - MSY
TPA*TPA*TPA'
CLl* CLT* CLT*
JAX*JA.\' JAX*
*Ko nonstop round-trip service (February 1,1975) by the subject carrici
B'.'/I = Calf.:norc-li'as:. :nt;ton Inrcrnational Airport
DCA ■= National Air;;ort
IAD •= Dulles International Airport
741
US::D AND UNUSED S'ONSTOl' ALrn:ORITY IN
EAi.Ti'-::..-;: /i.-ashixmcn 's top so markf.t.s
Between
^a:ik
Bjltir.ore/Wr>s)
anJ:
injton
tUI i^3\ 'iAJ
v.-..' York
NYC
NYC N-.C N.J*
Boston
BOS
zos^os i,i;s
Chicaso
."•i.'A
1
MIA KIA >;IA* 1
Los Anjoics
Atlanta
LAX
ATL AVL .\TL* !
S
9
10
San Francisco
?itt-;.v.:r,:h
i'/.il.iJ.-iphia
sr-0
1
i
P::L PHL*P>!L* !
11
12
1,^
Dr. 11 as
Clcvclar.d
Kartford
DAL
CLb
r.D!.
DDL BDL'BDL' I
14
IS
Norfolk
St. l.ouis
0\lr
STL
STL* STL STL'
16
Denver
l;:;n'
17
18
Minno.-polis
ProviJwnco
Ralci h
MS?
.■'VD
RD'J
PVD* PVD* pvi;- 1
KDU RDLJ RDU* I
20
25
24
Suffalo
ilea 3 -.on
Cincir.nati
Colur.;n;^, 0.
Mew 0;-lca.-.s
BIjF
I.\H
CVG
.-..SY
1
lAH* - ia;-!
MSI* - ;-:sY* ;
2S
Or:„r-Jo
29
Richr.-.ond
30
Albany, NT
31
Dayton
52
Rochester,
NT
33
Louisvillc-
34
NtuCL-r. Ne
IS
35
Me::.-x::s
36
Scaltlo
57
Roar.ol.c
33
San DiPso
59
Syracu.so
40
&arlotto
4!
Grcc-s-nc-o
42
J.C.oOi.Vll
e
43
Knoxville
44
Nashville
45
Charier, cc.-i
S.C.
46
MiluMukee
47
Charieivon
W.Va
4S
i;jjiisville
49
K.ocnix
SO
Colu:,:bia,
;.c.
:ico
MCG MCG
y.cci
RIC
RIC'RIC
RIC" ,
AL3
DAY
1
ROC
!
SDP'SDF
SDP*
KcK
SEA
ROA
S.VJ
SYR
SYR* SYR
SYR"
c;-T
CLT'CLT
CLT
GSO
GSO* GSO
GSO- '
J AX
JAX'JAX
JAX'
VYS
EN' A
CIS
c: IS* CHS"
CHS*
c\::
HSV
PriX
CAE
CAE CAE
CAE
NYC NYC NTC
SOS* EOS' EOS*
PKE*
PHL
PHL*
ORF*
ORF
ORF-
PVD*
PVl? PVD*
1
TPA-
TEA
1
TPA'
'■■'"'
,v.CO
.vco'
PHF*
PrlF
PHF*
JAX*
JAX
JAX*
CHS'
CHS
CHS*
'NYC* !
DTT D'l T
PIT PIT"
MKE MKE MKt
nonstop round-trip service (Fcbruaryl ,1975) by subject carri
International Airport
Baltiraore-Wash:
National Airport
Dulles International Airport
742
USrO A.-.T) UN'DSnO SO.'vVrC? AUTIIOraTY
Daltir.-.orc/WasMr
.-.r.d:
\cv Yor).
Los Ar.i^cles
Atlanta
Sar. rr.:ncisco
Detroit
?ittsb^,r-h
Phil;-.t!ul?hia
D;:ll..s
Clcvjland
i:-.rtvord
Korx'olk
St. Louis
Ho„:,tc.i
CJ.;c::;n:.li
Coici.,1 '.^, 0.
Now Orlc;;iis
c.;i
S'l'L
IAD
NYC
3Wi DCA lAO
25
Indi.-:r,apolis
INI)
26
Ta;.-.K.
TIW
27
Ka.i.-.as City
.••:ci
2o
Cr!:.r,ao
y.co
29
Rici,;..or.d
RiC
30
Albar,/, NY
AL.i
M
Dayton
r^\Y
32
tochcstcr, NY
iiOC
33
LouiiviUe
sj;-
34
Newport News
Muiriphis
PIV.-
:-:::y,
36
Seattle
SLA
37
Roanoke
ROA
3S
San Dic-o
SAN
39
Syracuse
sv:i
40
Charlotte
CLT
41
Greensboro
GCO
42
Jacksonville
JAX
43
Kjioxvillc
TYS
44
Nashville
uNA
45
Charlesto... S.C.
Ci:s
46
Milw..u>.oe
^:^1I
47
Ciiaricbton, W.Va.
C.J 'A'
4S
lluncsviUe
tiSV
49
Hhoonix
P1L\
50
Colu,nbia,S.C.
CA!;
ROA ROA ROA
NTC*
ECS*
NYC*
EOS*
NYC
LOS*
Oil
an
Ciil*
V\\
-
LAX
SFO
-
sro
HhL*
PHL*
PHL
1
BDL*
EOL*
».-
STL
•STL
STL* '
PEN^
DEN
CVG*
CVCfCVG* i
Cv.li'
C.--iH
c.--^\' 1
IND"
(ND
!ND*
MCI*
-
MCI*
DAY-
DAY
DAY*
PHX* -
PHX
NYC' '.YC
!-;os' aos
CHI CHI
EO.T 1
CHI
LAX* -
ATL* ATL
sro -
urr DTT
PIT*PiT
r'iiL'riiC
UX
ATL* 1
VI-
cl:: CLP,
LL-L* EuL"
Clii-* 0\<7-
0R|.-*
KSi* MSP
D.N
MSP* 1
RDlf r:.i!
B'Jf-' EJF
MSY- -
CM
y.s-f
MCI -
MCI
R1C"RIC RIC
OAY':-|AY DAY
PHP
PriF
SL/\
SLA*
S,VS'
-
SAN.
CLl'
GSO'
CLr CLl'
GSJ csd
TYS*
VYS
TYS*
;;Kh*
vkl'
::i.L*
HSV'
IISV
HSV*
*No nonstop round-trip service (February 1, 1975) by subject carrier.
EWI = taltl:..o-e-Wa^hin^ton Iiitcrnatic
DCA = Nati'inal Airport
IAD = Dullt,. International Airport
Source: Official Airline Guide
743
[The following was also submitted for the record.]
Prepared Statement of Rafael Hernandez-Colon, Governor of the
Commonwealth of Puerto Rico
I appreciate the opportunity to speak for the people of Puerto Rico in these
hearings.
You have described your purpose as seeking an answer to two questions:
whether the Civil Aeronautics Board's practices and procedures result in reason-
ably priced air transportation for the consumer and reasonable incentives for
the airlines to provide service ; and whether the public, and the airlines, are given
a fair opportunity to present their views to the CAB before important decisions
are made affecting their interests.
Both questions are important to all Americans who use and provide air service.
Both are crucial to Puerto Rico— particularly today, when our links with the
mainland may be significantly reduced by Pan Am's recent proposal to curtail
services in the Boston, New York, Philadelphia and Baltimore markets on
April 9th. While the Commonwealth has no wish to force Pan Am to serve Puerto
Rico, Pan Am's action should not be at the expense of the airline competition
and adequate service that is so essential to our island.
Air transportation is not a luxury for the people of Puerto Rico. It is a neces-
sity. Commerce with the mainland — for purposes of business, employment, tourist
travel, and the maintenance of family ties — depends on reliable, plentiful, and low
cost air transportation. That in turn depends in large part on the existence of
adequate competition. If the CAB's policies inhibit competition on the Puerto
Rican routes, the island is hurt. If those policies foster competition, Puerto Rico
benefits. It is about that simple.
Consider these facts. Nearly 40 percent of the annual traflBc moving from major
gateways on the mainland to Puerto Rico involves persons of Puerto Rican des-
cent or background. The median income of Puerto Rican families living here on
the mainland is about 60 percent of the national median family income. On the
island, median family income is far below that of the poorest state. So if these
families are to be able to travel to and from Puerto Rico and the mainland, air
fares must be kept reasonably low.
Tourism continues to be vilai to the Puerto Rico economy. The tourist industry
generates nearly 5 percent of our income, and provides employment for 10 percent
of our labor force. We must have plentiful low-cost service if that income and
employment is to continue and grow. Maintaining sufii^ient air service is espe-
cially crucial during the current recession. Our unemployment rate in Puerto Rico
Is very high — 17 percent — reflecting in part the recession in the mainland United
States and its impact on our important tourism industry. If Puerto Rico is to
hold its own during this economic crisis, visitors from the mainland must not be
discouraged by inadequate air service. That requires competition.
The history of air transportation in the mainland-Puerto Rico markets pro-
vides a vivid demonstration of the importance of competition in developing a
system that meets the public's needs. Before 1957, when Trans-Caribbean Air-
ways (American Airlines' predecessor) was authorized to provide scheduled
service between New York and San Juan, the two entrenched carriers in the
market, Pan American and Eastern, provided modest service and emphasized
first-class travel. This was so even though Pan American had served San Juan
as far back as 1929, and Eastern had served New York-San Juan since 1951.
When the CAB-certificated Trans-Caribbean, neither Pan American nor Eastern
had been meeting peak period needs in the New York-San Juan market, and
neither had made any significant effort to develop low-cost transportation
alternatives.
The infusion of competition by a small but innovative airline, Trans-Caribbean,
improved mainland-Puerto Rico air transportation tremendously. In order to
meet TCA's aggressive competition. Pan American and Eastern had to make
serious efforts to offer and promote reliable low-fare services for the first time.
The traveling public responded. The number of passengers from the ma'nland
to Puerto Rico increased even more dramatically than it had in the past and
the thrift-class fare became the most widely used fare by far. Thrift clas^j pas-
sengers went from 32 percent of the total market in 1958 to 94 percent during
the year ended September 30. 1964. Although the thrift fare level has, of course,
increased since 1958, it is still one of the lowest air fares for the distance in the
United States. Nevertheless, the airlines earned reasonable profits during the
744
intervening years, and tiie New Yorlt-San Juan market grew into the largest
long distance air travel marlvet under CAB regulation. The Civil Aeronautics
Board reaffirmed the benefits of this three-carrier competition in the New York-
San Juan market in December, 1970, when it approved the American-Trans-
Caribbean merger.
The relatively low fares have not been and should not be an impediment to
profitable operations by three carriers. The New York-San Juan market is
extremely dense, involving more passengers than other markets where the CAB
has certificated three or more carriers. About 1.52 million passengers moved
between New York and San Juan in fiscal 1974, compared to 1.12 million for
New York-Los Angeles (3 carriers), 818,000 for New York-San Francisco (3
carriers) and 685,000 for Chicago-Los Angeles (4 carriers).
The market's size, distance (1,600 miles) and established travel patterns
provide opportunities for the carriers to take maximum advantage of the effi-
ciencies of modern aircraft types. The carriers are able to use highly efficient
wide-bodied aircraft extensively. I am told that for markets of this distance,
the costs of operating a Boeing 747 are at least 15 to 33 percent lower than those
of narrow-bodied aircraft. Moreover, New York-San Juan passengers have dem-
onstrated time and again a willingness to accept high load factors and less than
elaborate amenities as a trade-off for relatively low fares. Though planes often
fly half-empty in domestic markets. New York-San Juan flights have load factors
in the 65-70 range, and many flights are sold out during peak periods (see
appendix A).
Airlines other than Pan Am have earned reasonable profits on Puerto Rican
services at the relatively low fares in effect (see appendixes B and C). While
Pan Am reports huge losses for Puerto Rico services, its competitors are oper-
ating in the black. In the year ended June 30, 1974, American earned a $2.8
million profit, and Eastern broke even. Pan Am showed a $10.8 million loss (see
appendix D). In the New York-San Juan market, American has told the CAB
that it will earn a 10 percent return on investment under current fares. The
Commonwealth has provided studies showing that American will earn in excess
of the CAB'S 12-percent standard rate of return in this market even without
the revenues from a recent 8-percent fare increase.
These comparisons, moreover, understate the profit potential of Puerto Rico
markets under current fare levels because American and Eastern are far from
the most efficient airlines in the U.S. Were truly low-cost carriers like Delta,
National, or Northwest operating in these markets, they would earn profits
well above the CAB's standard rate of return at the curernt fare levels. Clearly,
the difficulty does not lie in any of the unique characteristics of the Puerto
Rican air transportation market or the fare level. The problem seems to rest in
Pan Am's own operation.
A few comparisons of Pan Am's operating costs with those of its competitors
in the very same markets provides a clear demonstration of the failure of Pan
Am's management to control its operating costs. For approximately the same
level of capacity production, Pan Am's total operating costs were 41 percent
higher than American's for the year ended June 30, 1974. Excluding fuel, an
element that was less controllable by airline managers during the period, Pan
Am's operating costs per available ton mile were 144 percent of American's. The
comparison is even more striking when one focuses on nonflight related ex-
penses which, I am told, are highly influenced by individual management tech-
niques. Pan Am's advertising and publicity costs were 372 percent of American's.
What makes this so remarkable is that the total number of passengers Pan Am
carried was only 122 percent of American's. While American was spending 89
cents per passenger on advertising and publicity. Pan Am spent $2.70. Pan
Am's passenger services expenses per revenue passenger mile were 166 percent
of American's.
This inefficiency has a dramatic impact at the "bottom line" (see appendix
F). In order for Pan Am to achieve the CAB's standard 12 percent rate of re-
turn on its Puerto Rico services, it won'd require a 45 percent increase over
present fares. American, on the other hand, can achieve the standard rate of
return at fares somewhat lower than those presently being charged. If the
CAB were to grant an increase of the magnitude needed by Pan Am just to
break even in New York-San Juan, American's rate of return on this route
would be in excess of 25 percent.
Our purpose is not simply to attack Pan Am. Nor does the Commonwealth
seek to force Pan Am out of, or compel it to stay in, Puerto Rican markets.
745
However, these markets require competitive services — at least 3 carriers in New
Yorlv-Sau Juan, and 2 carriers in Boston and I'liiladelpliia. 11" Pan Am is to be
relieved of its service obligations because of its inability to operate profitably
in the market, it should not be permitted to stand in the way of replacement
service.
Unfortunately, Pan Am has structured its suspension proposal in a way that
is calculated to foreclose any substitutions of a competitive carrier. It has not
asked to have San Juan deleted from its certificate. Rather, it has requested a
"permissive" service suspension under section 401(j) of the Federal Aviation
Act for a period of 20 months. No new carrier without present East coast-
Puerto Rico routes would apply for authority to substitute for Pan Am for a
period of 20 months or possibly less — the period being totally dependent on Pan
Am"s whims. Representatives of 20 months. No rational carrier would apply
for authority to substitute for Pan Am for a period of 20 months or possibly
less— the period being totally dependent on Pan Am's whims. Representatives
of the Commonwealth have been in touch with a number of other airlines. While
several have expressed interest in replacing Pan Am, none would apply to the
Board for replacement authority, considering the start-up expense involved, if
the suspension period were 20 months or less. In order for a new carrier to enter
the market, it must have assurance that it will be able to operate in the market
indefinitely or for at least 3-5 years.
The Commonwealth of Puerto Rico is pursuing its remedies before the CAB.
Puerto Rico is petitioning the CAB to suspend Pan Am's routes for three to
five years, or permanently to delete Pan Am from these Puerto Rico routes, so
that strong new carriers will be in a po.sition to replace Pan Am in the markets.
We are requesting that new applicants be allowed to replace Pan Am on April
9th without any gap in the service competition that is so important to Puerto
Rico.
We are also asking the Board to require Pan Am to meet its obligations to
its employees in Puerto Rico. Our information is that as many as 300 workers
out of the 400 now employed by Pan Am in Puerto Rico may be laid off as a
result of this suspension. These men and women all have more than six or seven
years' service, in some cases much more. We think Pan Am should give them
preference when it hires new workers on the Eastern seaboard, and that they
should be entitled to severance pay. The savings that Pan Am will derive from
ending service should be shared with its employees.
Mr. Chairman, I would respoctfully suggest that Congress consider amending
the Federal Aviation Act in such a way as to encourage competition when- a
carrier suspends operations on a route for economic reasons. Today, under sec-
tion 401(j) of the Act, the Board is authorized to permit such temporary sus-
pensions of service without public hearing "as may be in the public interest" — a
very broad standard indeed. Should a carrier propose to suspend for a brief period,
as Pan Am proposes here, the Board should consider whether the terms and
duration of the suspension are such as to discourage applications for replacement
service.
There is, to be sure, in the Act's declaration of policy (.section 102d) a require-
ment that the Board consider as being in the public interest "competition to the
extent necessary to assure the sound development of an air-transportation .sys-
tem properly adapted to the needs of the foreign and domestic commerce of the
United Statues." But we are concerned that this broad injunction may not be
applied to a determination as to whether a suspension of service will serve com-
petition or not. I am not suggesting that the Board should compel a carrier to
operate at a heavy loss, ^^imply to provide competitive .service. I am suggesting
that the Board condition its approval of a su.spension in such a way as to attract
viable competition into the suspended market. Otherwise the effect of the suspen-
sion may be to discourage competition, and ultimately to raise fares.
Mr. Chairman, I recognize that one way of curing the lack of competition is to
eliminate all entrance requirements — to permit any and all carriers who wish to
serve a market to do so. I shall not comment on that, except to say that presently
we live and operate under rules that do regulate entry into markets ; that carriers
will not attempt to serve areas which they believe are already fully served by
other carriers ; and that a new carrier would not seek to serve any market if it
felt that Pan Am might return to it at any moment. So in this case, and under
present regulatory law. the cause of competition is best advanced by requiring a
suspending carrier to make way for another.
51-146 O - 76 - pt. 1
746
I appreciate the opportunity to present these views, Mr. Chairman. And I would
hope that your concern for increased competition and low fares will be heard
loudly and clearly by the Civil Aeronautics Board — both with regard to this pro-
posed suspension, and in future proceedings before the Board.
747
Appendix A
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748
APPEIJD]
INCREASES IN LOWEST REGULAR NEW YORK -SAN JU/ N FARES
AND
- PROPOSED 1Q75_NEW YORK-SAN JUAN FARES
MIDWEEK
Seasoii
Off-Peak Peak
March 1966 45.00 45.00
March 1968
March 1969
January 1970
April 1972
May 1974
November 1974
Proposed 1975
AA 81.00 107.00 86.00 113.00
EA 92.00 121.00 97.00 127.00
PA 83.00 88.00 88.00 93.00
Actual Increases
1966-75 (%) 62 62 78 78
7.5 41.3
21.3 ^58.8
10.0 16.2
45.00
45.00
51.00
51.00
57.00
57. 00
62.00
62.00
68.00
68.00
73.00
73.00
Proposed Additional
Increase 1975 (%)
by:
AA
11.0
46.6
EA
26.0
65.8
PA
13.7
20.5
WEEKEND
Season
Off-Peak
Peak
45.00" ...
45.00
49.. 00
49. .00
55.00
55.00
61.00
61.00
67.00
67.00
74.00
74.00
80.00
80.00
749
APPENDIX C
Comparison of New York-San Juan Fares
With Other Vacation Markets
February 1975
Round Trip Fares
NYC SJui^
CHI-SJui/ NYC-NAS^/
NYC-MBJ-/
NYC-POS^/
LAX-HNI^
in-stop Mileage
3,194
4,144 2,194
3,088
4,408
5,112
Y
YL
YH
YN
KL
KH
KNMW
KNWE
$186^^-^^
196
146
160
$ 304 $ 223
278
$ 308
$ 440
$246
278
232
262
x 32 All Year
/inter Ex 58 WE
Vinter Ex 59 MW
\
261 ^"^^^
192 "-\
166
256
\^^220
345
296
'-10 DayllT
\^ 150
202^^-v^
269
5 Pax 3-14 Day
GIT
MW
WE
\
194
216
^
10 Pax 3 -14 Affinity
GIT
\,
176
10-35 Pax Group
\^^
Off Days
Shoulder Days
Peak Days
\
231
246
263
}roup 40 Pax
Off Days
Shoulder Days
Peak Days
219
234
\^ 249
,/ PerATC53
;/ Per ATC 54
!/ Per ATP 194
^
750
AFa:NDIX c
Comparison of New York-San Juan Yields
With Other Vacation Markets
February 1975
Non-Stop Mileage
Y
YL
YH
YN
Round Trip Yields
NYC-SJU CHI SJU NYC-NAS NYC-MJB NYC-POS
3,194 4,144 2,194 3,088 4,408
7.34(; 10.301^ 9.97(^ 9.98^
6.71
LAX-HNL
5,112
4.8U
5.44
KL
KH
6.14
4.54
5.13
KN MW
KN WE
4.57
5.01
Ex 32 All Year
Winter Ex 58 WE
Winter Ex 59 MW
8.75 8.29
7.57 7.12
7.83
6.72
7-10 Day HT
15 Pax 3-14 Day GIT
MW
WE
40 Pax 3-14 Affinity GIT
10-35 Pax Group
Off Days
Shoulder Days
Peak Days
Group 40 Pax
Off Days
Shoulder Days
Peak Days
6.28
6.99
4.52
4.81
5.14
4.28
4.58
4.87
751
APPENDIX D
AIRLINE UNADJUSTED RESULTS
MAINLAND U. S. -PUERTO RICO/ VIRGIN ISLANDS MARKETS
Year Ended June 30, 1974
American Eastern Pan Am
Operating Profit (Loss)($)(000) $4,339 $(6,718) $(23,113)
Return ($) (000) 2,815 836 (10,791)
Rate of Return (%) 6.40 0.05 ' (17.65)
AIRLINE UNADJUSTED RESULTS
NEW YORK - SAN JUAN MARKET
Annualized 1974
Passenger Revenue (000) $55, 036 $51, 570 $27, 713
Operating ProfitALoss) (000) 5,351 3,415 (10,253)
Return (000) 3.194 3,295 (4,791)
Return on Investment (%) 9.9 5.4 (17.8)
Source : Mainland U. S. -Puerto Rico/Virgin Islands Fares Case,
Docket 24353: AA Item 9, EA Exhibit J, PA Appendix 9,
American Exhibit m, p. 1.
752
APPENDIX E
Pan American's Own Projections Indicate that Passenger
Fare Increases Ranging from 27 to 67 Percent Would be
Required at Pan American's High Expense and Investment
Levels to Achieve a 12 Percent Rate of Return
Mainland- PR/VI
Services
Passenger Services $ (000)
NYC-
SJU
All
aher
Total
Investment (PA Item 10)
28,020
26,498
54,518
Return Needed @ 12%
less Interest (PA Item 10)
3,362
1,172
3,180
1,109
6,542
2,281
Net Income after taxes
Taxes @ 48%
Taxable Income Before tax
Add Interest
2,190
2,021
4,211
1,172
2,071
1,912
3,983
1,109
4,261
3,933
8,194
2,281
Operating Profit Required 5,383
I>rojected Operating Expense
(PA Item 10) 39,794
Required Psgr. Revenue for
12% ROI
PA Projected Revenue with
8% Fare Increase (PA Item 10)
Required Fare Increase in
additjon torecent 8%
to achieve a 127o RDI (%) 66.8
5.092
10,475
45,177 42,474 87,651
27,079 33,490 60,569
26. i
44.7
Source :
Comments of the Commonwealth of Puerto Rico,
Docket 24353, February 21, 1975, PR-Table 11.
753
APPENDIX F
American, Eastern, Pan American
Comoarative Indirect Exuense Levels Fiscal 1974 vs. Calendar 1971
American
Unit Cost
Eastern
Unit Cost %AK~
Pan American
Unit Cost "MA
Passenger Service Unit Costs
?/RPM
1971
1974
0.543
0,549
0.520
0.608
96
111
0.831
0.913
153
166
^/ASM
1971
1974
0.299
0.376
0.311
0.384
104
102
0.466
0.538 .
156
143
Aircraft Servicing
$ per Avail. Ton Daptr
1971
1974
17.54
17.16
20.12
23.08
115
134
33.01
27.34
192
159
Traffic Servicing
$ per Ton Enplaned
1971
1974
46.57
55.89
43.48
63.60
93
113
100.66
105.87
216
189
(?/per RTM
1971
1974
2.92
3.47
3.04
4.14
104
119
6.90
6.81
236
196
Reservations and Sales
$ per Ton Enplaned
1971
1974
58.37
76.62
54.58
63.44
93
83
91.48
81.55
157
106
% of Operating Revenues 1971
1974
9.90
10.93
9.59
9.41
97
. 86
16.85
15.23
170
139
Advertising and Publicity
% Operating Revenues
1971
1974
3.35
1.14
4.06
3.24
121
284
3.95
4.44
118
389
General and Administrative
$ per ton Enplaned
1971
1974
28.47
27.93
28.14
32.95
99
118
32.28
41.83
113
150
Source: Comments of the Commonwealth of Puerto Rico,
Docket 24353, February 21, 1975, PR-Table 10.
754
[The following was also submitted for the record.]
Extracts From Address to the World Conference on Tourism and Air
Transport in Manila
Mr. Knut Hammarskjold,
Director General, International Air Transport Association
February 10, 1915.
The basic values and elements of any economic venture, especially of the magni-
tude of international air transportation and tourism, have undergone revolution-
ary changes during the last two years — one could also term it a revolution of
international air transport — and the sooner we recognize fu^ly that we now live
in a new and different world, the better for all concerned. In other words, the
fundamental concepts of international airline economics have changed. The
change is continuing and it must be recognized that new approaches are needed to
compensate for conditions in the new environment.
The time has come for sharing ideas in an international air transport system
where problems are so complex that no suggestions for remedying them should
go ignored. We must overcome the obstacles in our path, while continuing to
provide economically viable and necessary scheduled and programmed services,
both for individual and bulk travel, which are vital to keeping the political, social
and economic wheels turning.
This implies reexamining some of the "sacred cows" standing in the way of
progress. Exami)les of these include outmoded definitions, artificial market segre-
gation and excess capacity. To obtain maximum benefits from existing resources,
the challenge of these problems must be met. I am convinced that this is possible
in the interest of both the public and the industry — if the artificial, man-made
obstacles can be removed.
A realistic appraisal of the airlines' response to an unprecedented combination
of adverse economic forces during the past year leads me to conclude that, given
the necessary determination by all concerned to overcome existing man-made
obstacles of all natures to new and ima?;inative solutions, air transport will over-
come the present problems and face constructively the new world within which
it has to provide its international public service.
In the world of today, common sense and public opinion cannot tolerate con-
tinued wastage of resources, no matter what form they take. The sooner we all
realize this and adjust accordingly the better. Therefore maximum use has to be
made of all existing re.^ources, including utilization of aircraft in international
traflSc, thereby insuring the lowest possible bulk and individual fares to the public
and, at the same time, maintaining satisfactory services necessary for the vital
international commercial, economic and political relations. This objective obvi-
ously requires both imagination and the abandonment of dogmatic regulatory and
legal concepts.
[The following was also submitted for the record.]
755
Cha,r,r,.n AVIATION TRANSPORTATION AND AIRPORTS comm7.,ioo Coun„i
°*v'c\'"c°.km.'!l'^'"'^'' STUDY COMMISSION
^.To^ ="".'"„= oo„K, STATE CAPITOL CONSTANCE SPHOUSE
HOWARD P, ANDERSON Lofliilafive Resssrch
/VARBEN E BAHRV POST OFFICE BOX 3 AC AttOCr.t.
ADELAHD L BRAULT RICHMOND. VIRGINIA J320S
=AUL B BHICE I"""! "04254
LESLIE D CAMPBELL, JH WESLEY R, ELLMS
?'^'-'d"^^s''°°''" February 11, 1975
FORD
E« 0«ic
JONES
The Honorable Edward M. Kennedy, Chairman
Senate Administrative Practices and Procedure
Subcommittee - The Judiciary Committee
The United States Senate
Washington, D. C.
JTOPHEHSEN
. COMNOCIt
William H. Forst
Robert C. Watts, Jr.
Dear Sir:
In view of the current interest of the Senate Adminis-
trative Practices and Procedure Subcommittee concerning the
effectiveness of the policies, regulations and procedures of the
Civil Aeronautics Board, we wish to submit certain views and
findings of the Virginia Aviation Transportation and Airports
Study Commission. The studies and activities of this Commission
go back more than three years and we feel our conclusions repre-
sent both a seasoned collective judgment and a perspective which
encompasses the varied interests concerned with aviation trans-
portation at the state level. Although the following statements
and conclusions are my own, I believe a majority of our Commission
would agree with me.
The CAB does not concern itself with the systemic aspects
of air transportation at either the national or state levels. Never-
theless, this is exactly where the greatest favorable effect upon
the public interest could be fostered, where a federal regulatory
function is vitally needed and where the present law clearly places
a responsibility on the CAB. The Board rules on matters in this
domain almost entirely as the air carriers vish and I believe in
doing so ignores the public interest.
756
The Honorable Edward M. Kennedy -2- February 11, 1975
Our frustrating experience in Virginia provides a clear
example of the CAB's failure to consider systemic factors. The
local and regional air transportation systems of the United States
are dependent upon their connectivity with external points in the
national and international systems. The quality and degree of
such connectivity is, in turn, dependent upon the effective use as
gateways of hub airports in the localities and regions. In the case
of the northern East Coast states, the CAB has encouraged the over-
whelmingly predominant utilization of the New York hub airports.
This has stunted the growth of other hub airports along the coast,
including Boston, Philadelphia, Baltimore, Washington and Norfolk-
Newport News. The underdevelopment of these airports has reduced
their connectivity with the external points on the national and
international systems and therefore reduced the traffic potential
for local and regional systems. Thus regional systems remain as
stunted as the gateways upon which they largely depend.
How gross a distortion has the CAB permitted? The "second
morning truck delivery" market (i.e. a radius of about 600 miles) of
Dulles International is greater than that of John F. Kennedy Inter-
national at New York, Yet, because of discriminatory freight rates -
and possibly other factors - JFK handles about ten times the Dulles
freight business. The glut at JFK is inimical to good service,
while an increase in volume at Dulles would tremendously improve the
potential for air service to the smaller cities of Virginia and its
nearby sister states. The same effect would benefit the New England
and Pennsylvania regions through increasing the volume and schedules
of their airports.
Despite the obvious "public interest" need for equal trans-
atlantic freight rates, the CAB has overruled its own staff's recom-
mendations and sided with the airlines.
If there is any situation where a common sense regulation
is essential, it is in our national transportation systems. At the
same time there are vital state interests in these same systems. It
is unfortunate that the CAB has seldom given more than cursory ac-
knowledgment to the states' interest nor, for that matter, to local
and regional system requirements. In fact, the CAB seems to be en-
tirely lacking in understanding the advantages or significance of
transportation systems analysis.
We wish to make the opinions of Virginia known to your sub-
connnittee and therefore would appreciate this communication being
made a part of the record. We believe our sister states on the East
Coast - with the possible exception of New York - agree with our
views. If helpful, we shall be glad to furnish further details in
respect to the views expressed above.
757
The Honorable Edward M. Kennedy -2- February 11, 1975
We hope your subcommittee will find the means to
rectify the serious flaws we find in the policies of the CAB
which have impeded the development of an effective, environ-
mentally sound air transportation system in this country. As
opposed to the present narrowly legalistic approach, both the
air carriers and the public would benefit from one based on
a systemic foundation. Above all, however, we believe ways
should be found to encourage and assist states to develop their
local and regional systems. We believe the clearly evident
failure of the CAB to foster an optimum transportation system
constitutes a total disregard of the public interest.
Sincerely
c;^.«.ot^e.^-
Paul W. Manns
PWM/dp
Copies to: All Members of the Commission
Honorable Mills E. Godwin, Jr., Governor of Virginia
Honorable Wayne A. Whitham, Secretary of Transportation
and Public Safety
o
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